TPs got a 2012 cancellation of debt for $79,000 on a home equity line of credit taken out in 2006 to make improvements on their home. TP lost his job and SP started having medical issues, so only about half of the original $85,000 borrowed actually went to home improvements, and they were only able to pay back about $6,000 of it. They also eventually lost their house to foreclosure in 2011. They plan to file bankruptcy, but are afraid they will still have to pay tax on the 1099C income for debt canceled 5/31/2012. I don't know much about bankruptcy, but I'm thinking that they won't have to pay tax on any of it, even though half of it did not go into home improvements as planned. Any help on this would be greatly appreciated. Thanks!
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Were they insolvent?
Even if they did not file bankruptcy, if they were insolvent at the time the debt was cancelled that all or part of the debt is not taxable. You have to work up a list of their assets that they had just before the cancellation with FMV as well as the amounts of all their debts, including the debt that was cancelled. If the debts outweigh the FMV of the assets they are insolvent. If the insolvency is less than $79,000 then a portion of the cancellation will be taxable.I would put a favorite quote in here, but it would get me banned from the board. -
Oh, okay, thanks. I think I will need to file an extension for these people. They'll need some time to go through all their stuff, and I don't have time to fiddle with it too much right now anyway.Comment
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