Debt Negotiation

Today TaxMama hears from Robert in the TaxQuips Forum, with a painful issue. “I am considering working with a company that will hopefully negotiate my debt. It will involve stopping payments to creditors and turning negotiations over to a law firm with a limited power of attorney. I need to know how this could affect my 2011 as well as future year Federal and State tax filings.”

Dear Robert,

There are times when this is the only way. And I do hope it works! Truly.

But how will it affect your taxes? I don’t know.  Sorry, I don’t know anything about you, or your finances. And if the firm doesn’t have a tax pro, consider using some of that $50,000 you are NOT paying, to invest in a tax pro to go with you and help you understand the impact on your personal tax situation.

 In general?  When you get debt cancelled, IRS regards that as income to you.  If you get $50,000 worth of debt cancelled, that will be $50,000 of income to you. 

 Can you get around the taxes? Perhaps.

The insolvency calculation may work for the first few debts that are waived. But as you get more and more of the debts released, you will be less and less insolvent.  Some of your debt will end up being taxable.  Each and every discharge is a separate insolvency calculation.  You need a tax pro in your corner to work with you, and with the debt consolidation team, to help you with the timing and the computations, when you have a debt this large to discharge. 

Good luck! And remember, the FTC does not permit them to charge you BEFORE they discharge your debts. Anyone asking for money up front…beware.

 And remember, you can find answers to all kinds of questions about cancelled debt and other tax issues, free. Where? Where else? At  www.TaxMama.com.

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