When A Loan Triggers A Tax Debt

Funds received as proceeds of a loan aren’t taxable as long as you’re expected to pay it back. However, the moment some or all of the debt is forgiven (and doesn’t need to be paid back), the IRS will jump in and want its cut.

Don’t be caught off-guard by unexpected income taxes when this happens. Instead, keep these tips in mind:

  • An indication of a canceled debt larger than $600 would be the arrival of Form 1099-C. The IRS also receives a copy of this form. If you disagree with what the form states, it’s important to work with the lender to correct it.
  • Sometimes the IRS won’t wait for a cancellation of debt (COD) to determine your loan is actually taxable. This can happen when a loan resembles a tax-sheltered sale as was this $13.5 million tax case, for example.
  • Loans between family members are tricky. The loan needs to be genuine and not below market rate or pay-back-when-you-can. Such a loan will likely be viewed by the IRS as a taxable gift whether it’s forgiven or not. If this is the case, the only way to truly avoid taxation is for the gift to remain under the current $15,000 ($30,000 for couples) annual threshold for the gift tax exemption.
  • Exclusions can be made for CODs that involve the taxpayer’s main home or mortgage, particularly those who had their mortgage debt canceled in 2016.
  • Other exclusions might apply to second homes, rental or business property, credit card debt, or car loans.
  • Lastly, if the taxpayer is insolvent both before and after the forgiveness, then the debt will not be taxable.

Whichever side of the loan you’re on, talk to a tax advisor first to consider the tax implications of reducing or forgiving the debt. Walk into a COD unprepared and your “forgiveness” may be met with a surprising bill from Uncle Sam.

Image via 123rf.com

Client Spotlights

A terrifying home invasion involving men with masks and guns set Pam Wood on an unexpected path to business ownership in 1981.
What happens when you combine a passion for creating, a knack for business, and deep family values? For Scott Klingler, owner of MergeWorks, it resulted in a thriving family business known for its…
Bessie M. Irizarry loves embracing a good challenge. It’s one of the many reasons she’s earned respect as a female engineer and business owner in predominantly male-dominated fields.
San Antonio native Mark Lopez can’t recall a time he didn’t envision himself following the footsteps of his father, a project manager, into the construction business.
Siew Pang knows that the key to unlocking the American dream can be discovered by embracing unexpected opportunities.
If you’re a San Antonian, you may not want to imagine your weekend without brunch at the city’s beloved Magnolia Pancake Haus.
Greg Thompson has long respected money and how it can catalyze greater things.
You may not be aware of it, but Don Lasseter has helped you throw a party. How do we know that? He’s the franchise owner of six San Antonio-area Party City stores.
Land surveyors aren’t known for exceptional customer service. But why shouldn’t they be? David Breaux set out in 1998 to prove that treating customers right can pay off in any industry.
When Lance Rose sees a business need, he fills it. That’s how he and Terri, his wife of 30 years, have evolved into the proud owners of OverWatch Enterprises, LLC, a cutting-edge security services company.
Matt and Lara Bruhn met while in graduate school at Harvard. He served as an officer and F-15C pilot with the U.S. Air Force.
Growing up in Piedras Negras, Coahuila, Mexico—just south of Texas along the Rio Grande—Oscar E. Flores dreamed of becoming a designer.

Blogs and Articles

The Goldilocks Rule for Tax Withholding

How Inherited Assets Affect Your Taxes

Getting Hit by Someone Else’s Bankruptcy

Welcome to Texas: Cutting Tax Ties with Your Previous State

Reaching the Unreachable IRS

How Is Costco Gold Taxed?

Yes, You Do Still Have to File Taxes

Retirement Plan Perks for Texas Small Businesses

Top 6 Worst Social Media Tax Tips

What’s Happening with the Corporate Transparency Act?

Love & Marriage & Your Business Assets

How Small Business Owners Reduce Taxable Income

Spot These Tax Scam Signs Before It’s Too Late