Forgiven debt still might haunt you as taxable income
Canceled debt in many cases is considered income — taxable income. And if a creditor forgives thousands of dollars of debt, you can find yourself whacked by a big tax bill.
And that is not the only consequence. Forgiven debt can raise your income to the point where you’re ineligible for certain credits and tax deductions, or part of your Social Security benefits is taxed, says Bob Scharin, a senior tax analyst with Thomson Tax & Accounting.
Of course, having a creditor absolve you of debt can be a financial lifesaver. And not all canceled debt is taxable. Congress last year, in response to the subprime mortgage mess, temporarily exempted a sizable amount of forgiven mortgage debt from taxes. Also, you won’t be taxed on canceled debt in cases of bankruptcy or insolvency.