Tax Analysts, a leading provider of tax news, analysis, and commentary, covers the tax issues involving cancellation of debt income.
Generally, when a taxpayer borrows money but the debt is eventually cancelled or forgiven, the taxpayer recognizes income in the amount of the cancelled debt. However, under section 108 of the Internal Revenue Code and associated regulations, exceptions apply. Exclusions apply for taxpayers with a debt discharge in a Title 11 bankruptcy case, insolvent taxpayers, or a discharge of qualified farm indebtedness or qualified real property business indebtedness. The coordination of these exclusions – that is, which exclusion takes precedence – is discussed in section 108(a)(2).
The amount excluded from income under section 108 does reduce the taxpayer’s tax attributes. The order in which the attributes are reduced is set out in section 108(b)(2).
An exception also existed for a discharge of indebtedness related to a taxpayer’s primary residence before 2014. Although a number of bills have been introduced to extend this exception (S. 608, H.R. 1002), such an extension has not yet been enacted.
Under section 108(f), student loans may be forgiven without indebtedness discharge income for individuals who work in certain professions for listed classes of employers, which include government units, educational organizations, and the National Health Service Corps.
Tax Analysts consistently and promptly publishes all relevant developments regarding cancellation of debt income.