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Form 982: The Way to Battle a 1099-C

Gerri Detweiler

If you have received one or more of the estimated 5.5 million 1099-C forms being sent to taxpayers this year, then you may find yourself wrangling with Form 982. That’s the form that taxpayers who qualify to have the income listed on the 1099-C form excluded from their debt should fill out and include with their return.

The most common reasons taxpayers are able to exclude the income listed on a 1099-C from their gross income are:

  • The debt was discharged in bankruptcy.
  • They qualify for the tax break under the Mortgage Debt Forgiveness Tax Relief Act.
  • They meet the IRS definition for insolvency and that amount is larger than the amount listed on the 1099-C.

Already lost? Read up on the top 1099-C questions consumers are asking.

Of all of these three, bankruptcy is the most straightforward. If the debt was canceled as the result of a bankruptcy discharge, you simply check box 1a on Form 982 and fill in the amount discharged. You don’t have to pay taxes on debt canceled in bankruptcy. The exclusion for mortgage debt can get complicated if you used proceeds from your home loan for any reason other than to purchase or improve your primary residence and often requires the help of a tax pro.

It’s the third one — insolvency — though, that taxpayers seem to be having a particularly difficult time with, at least judging from the questions and comments we are receiving. Instructions for filling out Form 982 can be found in IRS Publication 4681, including the insolvency worksheet the IRS provides for calculating the extent to which you are insolvent.

[Related Article: 1099-C in the Mail? How to Avoid Taxes on Canceled Debt ]

But IRS Publication 4681 doesn’t cover every scenario. There are some big gaping holes — like a lack of instructions for taxpayers who receive 1099-Cs for very old debts.  And some basic questions appear to remain unanswered — like how do married couples handle joint or separate debts or assets when filling out the insolvency worksheet.

So I turned to Edward Zollars, a CPA and partner with the tax practice of Thomas, Zollars and Lynch in Arizona for help answering two of the questions we’ve recently received.

Form 982 for Multiple 1099-Cs

Our reader asks:

We’ve received several 1099-Cs for settled debt in 2012 and plan on filing Form 982 for insolvency. The question I have is: All of the settled debts happened on different dates throughout the year so how do we file only one Form 982? The instructions say that you must fill out your assets and liabilities immediately before the debt was settled, but how is this done with different settlement dates? All of the tax programs I’ve looked at only support a single Form 982.

This question is particularly relevant for consumers who may have settled several debts, either with the help of a debt settlement firm or on their own. Zollars provides this guidance:

“I suspect that most consumer (and even likely most professional) tax programs won’t support multiple Forms 982. In reality I suspect you can combine all reporting into a single Form 982, though the worksheet from Publication 4681 will need to be filled out separately for each discharge. If the discharged debts are large enough that the question of the limits for reducing basis of assets (basis less debts outstanding immediately after discharge) come into play, the reductions might get more than a bit messy, but I think it’s doable with some worksheets to back up the Form 982 calculations.

If the tax software has tried to integrate the worksheet in Publication 4681 things might get messy — haven’t looked to see what’s out there on that issue in the software. But I think if they simply do the worksheet by hand for each date (it’s a simple listing of assets and liabilities at the then-current values) they’ll figure out how much of each discharge they can exclude — the total amount excluded is what goes on the Form 982.

Unfortunately, this sort of case is not something that most consumer software has been optimized to handle and I suspect that they never worried about multiple discharges in the same year even if they did integrate the worksheet.”

Do I Include My Spouse’s Assets or Debts When Calculating Insolvency?

The second issue is one that has come up in several different questions over the past week. The overall issue is how married couples’ individual debts/assets are handled when filling out the insolvency worksheet. Our reader asks:

I received a 1099-C for one of my student loans. It was forgiven in 2012 because I am permanently disabled. The other huge loan is still being reviewed. My question is: I qualify for insolvency if I include everything I own. The problem is that I am married and I need to know if they are going to consider my wife’s income and her assets. Our home is in her name, as is the car and everything else we ever got. The only things I really own are the clothes on my back. My wife bought our home on her credit and job since I did not qualify for a loan. I have not worked since I went back to school in 2000 and I had to leave school in 2008 because of my disability. My loans are in excess of $200,000. Please help! Thank you.

We’ve heard from many consumers whose student loans were discharged due to total and permanent disability. They were shocked when they then received a 1099-C for that amount and were faced with a potentially monstrous tax bill as a result. But it’s not just those with canceled student loans who may be have trouble figuring out how to complete the insolvency worksheet. Anyone who is married and received a 1099-c for any type of debt may find it difficult to navigate this  issue. Zollars responds to our reader’s question:

“That one seems a bit less clear, but I’ll give you my take. In Publication 4681, Example 3 on page 6 makes it clear that if the taxpayers file separate returns you compute each spouse’s insolvency separately.  The Publication does not offer an example of the insolvency calculation where a joint return is filed and one spouse is insolvent but the other isn’t, but it would appear the same tests would apply. That is, you would compute each spouse’s solvency or lack thereof and compare that to their share of any debt discharge.

That said, insolvency is trickier than you might suspect. First, you must always be aware of the potential issues in community property states.  If the asset is community then you end up with a joint ownership. Similarly, you also have to look at the debts. The biggest problem, though, is that you cannot exclude assets that are exempt from creditor’s claims from your insolvency calculation. So if, for instance, the taxpayer has a pension or retirement account, that has to be considered.

Finally, his spouse’s income isn’t relevant — solvency is a pure asset/liability test at an instant in time and we don’t care about someone’s income.”

The bottom line is that for many taxpayers, 1099-Cs will trigger another bill — for help from a tax professional. For complicated situations or those involving large amounts of cancelled debt, it’s especially crucial to get expert assistance. Don’t assume that anyone who prepares a tax return knows how to deal with the complicated issues these forms raise. After all, this is just one part of 73,608 pages of tax code for 2012.

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