Overview

Canceled debt is generally treated as taxable income by the IRS. Lenders commonly report debt cancellation with Form 1099‑C (Cancellation of Debt). However, federal tax law provides several narrow exceptions that let taxpayers exclude canceled debt from income. Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness, is the form you file with your tax return to claim those exclusions and to report the required adjustments to tax attributes. (See IRS, About Form 982: https://www.irs.gov/forms-pubs/about-form-982.)

This article explains when to use Form 982, who qualifies, how to complete it in practical terms, common mistakes, and next steps if you receive a 1099‑C. It draws on IRS guidance and real‑world practice tips to help you decide whether the form applies to your situation. This is educational information only—not personalized tax advice. Consult a CPA or tax attorney for guidance tailored to your facts.

Why Form 982 matters

If you ignore eligible exclusions, canceled debt included on a 1099‑C can inflate your taxable income and produce an unexpected tax bill, penalties, and interest. Form 982 lets you lawfully exclude amounts from income and shows how to reduce certain tax attributes (for example, basis in property) as required by Internal Revenue Code §108 and IRS instructions. Always keep thorough documentation in case the IRS asks for proof.

When to use Form 982 (the main scenarios)

1) Bankruptcy discharge

  • If the debt was discharged in a Title 11 bankruptcy proceeding, the discharged amount is excluded from income. You claim that exclusion with Form 982 and check the bankruptcy box. You generally attach the bankruptcy documents or at least retain them in your records. (IRS Form 982 instructions.)

2) Insolvency

  • If you were insolvent immediately before the discharge—that is, your total liabilities exceeded the fair market value of your total assets—you may exclude canceled debt up to the amount of your insolvency. You must compute insolvency carefully and document the asset values and liabilities. Form 982 requires you to report the amount excluded for insolvency and to attach a statement showing how you calculated it. (See IRS, Canceled Debt: What It Means for Your Taxes: https://www.irs.gov/businesses/small-businesses-self-employed/canceled-debt-what-it-means-for-your-taxes.)

3) Qualified farm indebtedness and qualified real property business indebtedness

  • Separate statutory categories allow exclusions for qualified farm debt or business real property debt subject to specific rules. These have different tax‑attribute reduction rules and may require additional forms or statements. Refer to Form 982 instructions and IRC §108.

4) Other limited exclusions

  • Historically, Congress allowed an exclusion for qualified principal residence indebtedness for certain years; whether that applies depends on current law and IRS guidance. Because legislative treatment can change, always check current Form 982 instructions or IRS guidance before claiming that exclusion.

Who qualifies — practical eligibility checklist

  • Received a Form 1099‑C reporting canceled debt or otherwise had debt canceled.
  • Debt discharge occurred in bankruptcy, or you were insolvent immediately before discharge, or the debt fits another statutory exclusion (qualified farm, qualified real property business indebtedness).
  • You prepared documentation (balance sheet, asset valuations, supporting closing or bankruptcy records) to show insolvency or the nature of the discharged debt.
  • You are prepared to reduce tax attributes (tax basis, net operating loss carryovers, passive activity loss carryovers, etc.) as required by §108(b).

How to use Form 982 — step‑by‑step (practical)

1) Gather documents

  • Form 1099‑C (if issued), lender statements, settlement agreements, bankruptcy discharge papers, recent bank statements, appraisal or vehicle payoff info, and a list of assets and liabilities dated immediately before the debt was canceled.

2) Decide whether an exclusion applies

  • Compare the discharged amount to the insolvency calculation or confirm bankruptcy discharge. If the debt is excluded for another reason (qualified farm, QRPBI), verify the statutory requirements. If no exclusion applies, the canceled amount is taxable and you report it as other income.

3) Calculate insolvency (if claiming insolvency)

  • Insolvency = Total liabilities immediately before discharge − Total fair market value of assets immediately before discharge.
  • Example: Total liabilities $120,000, total assets $40,000 → insolvency $80,000. If $50,000 debt is canceled, you may exclude up to $80,000, so the full $50,000 is excludable.
  • You must show how you valued assets (bank balances, market values, appraisals). The IRS expects reasonable, contemporaneous documentation.

4) Complete Form 982

  • Follow the form instructions: check the box for the applicable exclusion (bankruptcy, insolvency, qualified farm indebtedness, qualified real property business indebtedness, etc.). Enter the amount of discharged indebtedness excluded from income. If the exclusion reduces tax attributes (often required), list the attributes to be reduced and follow the ordering rules in the instructions.

5) Attach statements as required

  • For insolvency, attach a statement showing the insolvency computation and supporting documentation. For bankruptcy, keep the bankruptcy discharge documents with your records and attach if the instructions ask for them.

6) File with your return and retain records

  • File Form 982 with the tax return for the year in which the debt was canceled or discharged. Keep copies of all supporting documentation for at least three years (the IRS can audit returns beyond that in some circumstances). If you already filed and later receive a 1099‑C or new facts change your status, you may need to amend.

Practical example

  • Sarah had $60,000 in credit card balances but total assets of $10,000 and total liabilities of $90,000 immediately before an agreement where a lender forgave $40,000. Insolvency = $80,000 ($90,000 liabilities − $10,000 assets). Because $80,000 insolvency exceeds the $40,000 forgiven amount, Sarah can exclude the full $40,000 using Form 982 and must document the insolvency calculation.

Bankruptcy vs insolvency — important differences

  • Bankruptcy discharge is binary: if the discharge occurred in Title 11, the discharged amount is excluded. Insolvency requires a numeric calculation and only excludes the forgiven amount up to the insolvency shortfall.

  • Both routes usually require reducing tax attributes (basis, NOLs, credit carryovers) per §108(b). The ordering and scope of those reductions are detailed in Form 982 instructions and in IRS publications.

Common mistakes and how to avoid them

  • Assuming every 1099‑C means immediate tax: not always. Check exclusions first.
  • Poor documentation of insolvency: maintain a contemporaneous asset and liability list dated immediately before discharge and keep proof of values.
  • Forgetting state tax consequences: some states don’t follow federal exclusions, so you may owe state tax even after claiming Form 982 at the federal level. Check your state revenue department guidance.
  • Failing to reduce tax attributes: if you exclude debt under §108, you usually must reduce certain tax attributes—don’t skip the required adjustments.

If you disagree with a 1099‑C or didn’t receive one

  • If the lender issued a 1099‑C but the amount is incorrect or the debt wasn’t canceled, contact the lender immediately and request correction. You can also attach an explanatory statement to your return and keep documentation. If you never received a 1099‑C but had debt canceled, you should still analyze tax treatment and file appropriately. The CFPB and IRS offer guidance on disputing reporting and dealing with lenders (see Consumer Financial Protection Bureau / ConsumerFinance.gov resources).

Amending returns

  • If you later discover you were eligible for an exclusion (for example, you became insolvent in the year the debt was canceled), you may need to file an amended return (Form 1040‑X) and include a completed Form 982. Consult a tax professional before amending.

Where to find official guidance and further reading

Related FinHelp articles

Frequently asked questions (short answers)

Q: Do I always need Form 982 if I get a 1099‑C?
A: No. You only file Form 982 if a statutory exclusion applies (bankruptcy, insolvency, qualified farm/QRPBI, etc.). If no exclusion applies, report the canceled debt as income.

Q: Can forgiven student loans be excluded?
A: It depends on the reason for discharge and current law. Some student loan cancellations tied to disability or other specific programs may be excludable; recent legislative or administrative changes can affect treatment. Check IRS guidance and consult a tax professional.

Q: Will my state tax me if I exclude the debt federally?
A: Possibly. State treatment varies. Many states follow federal rules, but some treat canceled debt as taxable. Check your state tax authority.

Professional disclaimer

This article is educational and does not replace personalized tax advice. I am not your tax preparer; consult a qualified CPA, enrolled agent, or tax attorney about your specific facts before filing. The IRS is the authoritative source; see the linked IRS pages for official instructions and updates.

Closing note

Form 982 can be the difference between a manageable post‑forgiveness outcome and an unexpected tax liability. Treat canceled debt carefully: collect documentation, run the insolvency calculation if relevant, and consult a professional when in doubt to ensure you file correctly and protect your tax attributes.