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Photo of attorneys Shelley Slafkes and Bruce Levitt
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Tax Consequences of Debt Settlement

On Behalf of | Jan 23, 2015 | Bankruptcy Basics

If you are looking for an alternative to filing for bankruptcy protection, you may be considering debt settlement. In debt settlement, you negotiate with your lender(s) to pay a smaller amount than what is owed as payment in full. While this may seem like the perfect solution to your money troubles, it doesn’t come without its disadvantages.

There are certain hidden costs to the debt settlement process. The main one that often takes consumers by surprise is the tax consequences. You may be able to pay your lender thousands of dollars less than the total amount you owe, but at tax time your lender will send you a 1099-C showing that the debt has been forgiven. Unfortunately for you, the Internal Revenue Service (IRS) treats forgiven debt as income. As a result, many individuals are shocked to learn that they owe thousands of dollars in tax debt.

Typically, the tax debt is less than the amount of the forgiven debt, so you still may come out ahead. However, if you are not prepared to pay your taxes, it can be devastating. Facing your tax debt in addition to your medical bills, credit card debt and other loans can once again make you feel like you are drowning in your debt. If you are considering debt settlement, it is essential that you confer with a professional who can explain the pros and cons of the process. In certain situations, the tax consequences of having your debt forgiven can be eliminated or reduced.

It is also important to understand that filing a Chapter 7 or Chapter 13 does not have tax consequences. You can discharge or eliminate thousands of dollars of debt without the IRS considering it as income. This is why bankruptcy is often referred to as a “fresh start” – you can emerge from your case truly debt-free. To learn more about debt settlement or filing a personal bankruptcy, contact us to schedule an appointment.

If you are interested in learning how filing a bankruptcy case can benefit you, contact Levitt & Slafkes, P.C., at 973-323-2953. You can also reach us by filling out our online form. We represent debtors in Chapter 7, Chapter 13 and Chapter 11 filings. Let us help you get the fresh financial start you need today.