Is Cancellation of Debt Always Income Taxable?

Is Cancellation of Debt Always Income Taxable? What does IRS say? Not always. There are exceptions. Some situations when cancellation of debt income is not taxable involve:
A. Bankruptcy: Debts discharged through bankruptcy are not considered taxable income.
B. Insolvency: If you are insolvent when the debt is cancelled, some or all of the cancelled debt may not be taxable to you. You are insolvent when your total debts are more than the fair market value of your total assets. Insolvency is complex to determine and the assistance of a tax professional is recommended for consideration.
C. Certain farm debts: If you incurred the debt directly in operation of a farm, more than half your income from the prior three years was from farming, and the loan was owed to a person or agency regularly engaged in lending, your cancelled debt is generally not considered taxable income. The rules applicable to farmers are complex. The assistance of a tax professional is recommended.
D. Non-recourse loans: A non-recourse loan is a loan for which the lender’s only remedy in case of default is to repossess the property being financed or used as collateral. In this situation, the lender cannot pursue you personally in case of default. Forgiveness of a non-recourse loan resulting from a foreclosure does not result in cancellation of debt income. However, it may result in other tax consequences.
We provide this for information only, and these are complicated issues. We recommend you hire a qualified income tax professional.
Posted by Harrison K. Long, Explore Properties Group, April 18, 2008