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Cancellation of Debt Articles Misguided
December 21, 2012
A few months ago, I took a less than reputable reporter to task for publishing an article on the outrageous tax bills American athletes faced for winning medals at the Olympic Games. Well, misguided reporting on tax law has happened again. Numerous times in fact, but I can only keep up with so much. The current misapplication of tax law concerns the impending expiration of the Mortgage Debt Relief Act of 2007, which is a side story to the fiscal cliff negotiations. I am sure the incorrect information is being disseminated by many outlets, but two of the biggest offenders are the New York Times and The Huffington Post. You can link to those articles here –NYTimes and here –HPost. The Huffington Post immediately grabs the reader’s attention as it boldly states, “Beginning Jan. 1, people who lose their home to foreclosure will be required to pay federal taxes on any unpaid mortgage the bank can’t recoup through an auction.” The problem is that these articles all fail to mention any of the exclusions available to taxpayers with canceled debts. A taxpayer that receives Form 1099-C should review the exclusions available to them as discussed in IRS Publication 4681. The insolvency exclusion is the most notable because it has been around for some time and is not set to expire at year’s end. The insolvency exclusion uses a worksheet to break down the taxpayer’s assets and liabilities. Once tallied, the taxpayer is only required to include in income the amount of canceled debt to the extent that he or she is solvent. This situation has actually come up a number of times in my practice. Last year, I saved a client nearly $20,000 in tax liabilities to the IRS and Missouri Department of Revenue because his CPA included the entire amount listed on his cancellation of debt form on his 2006 tax return, the year before the Mortgage Debt Relief Act was enacted. Using the insolvency worksheet, we filed amended returns excluding the entire amount of canceled debt. We not only wiped out the entire liability, we secured a refund for the taxpayer as well. The two articles I point out today contain factual errors that could easily have been prevented if the authors took the time to properly research the issue. Most of the information I presented is available through a quick search on the IRS website. I understand we now live in a constant 24-hour news cycle where quality is sacrificed for quantity, but that is no excuse. I have said it before and I’ll say it again – if you decide to jump into the tax code pool to make a point, be sure to wear your floaties. Until next time, Alex