Debt settlement is a process that allows borrowers to settle their debts for less than they owe. Howeve𝐆r, in most cases, any debt that is forgiven will be subject to income taxes. Here is what you need to 🌊know.

Taxable Income From Canceled Debt

You can attempt to settle your debts with creditors on your own or with the services of a debt settlement or 澳洲幸运5官方开奖结果体彩网:debt relief company that will charge you 澳洲幸运5官方开奖结果体彩网:a fee for its services. (While there are legitimate debt settlement companies, the Consumer Financial Protection Bureau warns that they "can be risky" for several reasons.)

With certain exceptions, any debt you manage to have discharged or canceled by a creditor is considered taxable income under federal law. That means you must report it when you file your 澳洲幸运5官方开奖结果体彩网:tax return for the year and pay taxes on it—even though y🐼ou didn't receive any actual money.

As an example, suppose you have $20,000 in credit card debt, and, after negotiations, the lender ag🦋rees to accept $12,000 as payment in full. In that scenario, you would have $8,000 in taxable income to report 🍃on your tax return.

The process works a little differently with 澳洲幸运5官方开奖结果体彩网:secured debt, such as an auto loan for which the car serves as 澳洲幸运5官方开奖结果体彩网:collateral. (Credit card debt is typically 澳洲幸运5官方开奖结果体彩网:unsecured debt.) If, for example, you fall behind on your car payments, the lender can repossess the vehicle and sel𒉰l it. Whatever amount the lender receives from selling the car will reduce the debt you owe but generally not eliminate it. You can then attem🌼pt to settle the remaining debt for a lower amount. If the lender agrees, the amount you save becomes taxable income.

Exceptions to Taxable Canceled Debt

The 澳洲幸运5官方开奖结果体彩网:Internal Revenue Service (IRS) does list some exceptions to these rules. For example, the following types of debt are not considered canceled debts for tax purposes:

• Debts canceled as "gifts, bequests, devises, or inheritances"
• Certain qualified student loans that qualify for 澳洲幸运5官方开奖结果体彩网:student loan forgiveness programs based on your profession
• Eligible student loan discharges after Dec. 31, 2020, and before Jan. 1, 2026
• Student loan debt forgiven under Public Service Loan Forgiveness (PSLF)
• Amounts of canceled debt that would be deductible if you, as a cash basis taxpayer, had paid it
• A qualified purchase price reduction given by the seller of property to the buyer

In addition, some debts that are considered canceled are not subject to income tax. Those include the following:

• Debt canceled in a Title 11 bankruptcy case (Title 11 includes 澳洲幸运5官方开奖结果体彩网:Chapter 7, 澳洲幸运5官方开奖结果体彩网:Chapter 11, and 澳洲幸运5官方开奖结果体彩网:Chapter 13 bankruptcy, among others)
• Debt canceled to the extent insolvent
• Cancellation of qualified farm indebtedness
• Qualified real property business indebtedness
• Qualified principal residence indebtedness that is discharged before Jan. 1, 2026

Reporting Canceled Debt on Form 1099-C

When a creditor cancels all or part of a debt you owe in an amount that's more than $600, the company you owed money to will typically send you a 澳洲幸运5官方开奖结果体彩网:Form 1099-C: Cancellation of Debt. It provides the information you'll need when you file your tax return for the year the debt was forgiven, including the amount of debt canceled and the date the cancellation occurred.

Note that you are still legally required to report the canceled debt amount even if the creditor does not send you this form. If you receive a 1099-C reflecting incorrect information, the IRS recommends contacting the creditor to request an updated form with the correct information.

⭕Tax Implications of Settling Different Ty💧pes of Debt

As mentioned, you'll owe federal income tax on any debt that is canceled or discharged, regardless of the type of debt, unless it falls into certain categories eligible for exclusion (described above).

That debt will be taxed at the same rate as your 澳洲幸运5官方开奖结果体彩网:ordinary income. How much you'll have to pay will depend on your 澳洲幸运5官方开奖结果体彩网:marginal tax bracket for that year. Currently, ordinary income is taxed at anywhere from 10% to 37% on the federal level.

In some cases, your state's tax rules may differ from the federal ones.

Strategies to Minimize Tax Consequences

If you plan to settle debt for less than you owe through debt settlement, there's not much you can do to minimize the tax consequences except to reduce your other taxable income as much as possible so that you qualify for a lower marginal tax rate.

You could also consider some alternatives that don't have tax consequences and shouldn't damage your credit score, either. For example, you might be able to work out a debt management plan to pay your debts off at a pace that is workable for you and acceptable to your creditors through a non-profit 澳洲幸运5官方开奖结果体彩网:credit counseling agency. Many creditors would rather get their money back over a l🧸onger period of time than never get it back at all.

Another option, if you still have reasonably good credit, is to apply for a 澳洲幸运5官方开奖结果体彩网:debt consolidation loan. These loans allow you to pay off your existing debts, after which you make payments on them, typically at a lower 澳洲幸运5官方开奖结果体彩网:interest rate than you'd pay on your credit cards. You'll still have to pay your debts in full, but this can ease the pressure. A similar option, also if you have good enough credit to qualify, would be to transfer your existing credit card debt to a 澳洲幸运5官方开奖结果体彩网:balance transfer credit card with a꧅ low or 0% promotional interest rate for a certain perioꦺd of time.

The Bottom Line

Debt settlement can make it possible to pay off your debts for less than you currently owe, but that won't get you off the hook with the IRS. Before you attempt debt settlement—either on your own or with the assistance of a third party—it's worth exploring other alternatives.