Joe Kristan tells of a recent Tax Court case (Gaffney v. Commissioner; T.C. Summ. Op. 2010-128) where the Court properly held that a 1099-C alone is insufficient to establish the taxability of debt cancellation income:
The Tax Court pointed out that the IRS needs more than just a 1099-C to assess debt cancellation income:
In support of [the IRS's] assertion that the discharge of indebtedness occurred in 2006 and not when the loan was “charged off” in 1995 or when collection activities ceased in 2001, [the IRS] provided a letter from Bank of America which stated that the account had been reviewed and that both the Form 1099-C and the amount of the discharge of indebtedness income were correct.
Although sufficient to meet [the IRS's] burden of production under section 6201(d), the evidence [the IRS] provided failed to indicate an identifiable event, a bank policy, or a State law that would justify the discharge of indebtedness in 2006.
We find that petitioner has satisfied his burden of proving that the discharge occurred before 2006. Therefore, we hold that petitioner did not have $90,845 of income from the discharge of indebtedness by Bank of America in 2006.
Joe concludes:
Debt cancellation usually is taxable, but not always, and a 1099-C doesn’t by itself always mean you have to pay tax.
Don’t forget, though, that you have to account for the 1099-C income on your tax return whether or not it is taxable. If the IRS doesn’t see it there, it will assume it’s taxable, recalculate your tax liability and send you a bill for the underpayment of tax plus hefty interest and penalties.
If you get a 1099-C, hire an experienced professional tax preparer to prepare your return.
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