Paying off debt is exhilarating! Getting free of the bondage of debt gets me excited! How you go about doing that may not be quite as exciting though if taxes get involved. Read on if you settled debt in 2011. Tax Day is coming April 16th and you need to be sure you are ready.
Typically if you have old debt that hasn’t been paid on for more than 6 months I recommend you settle them. But you must know that there can be consequences to doing that. I believe the freedom of being debt-free is worth it though. Let me explain…
Let’s say you have a $1000 debt that hasn’t been paid on for a year. When you have the cash on hand you could settle that debt for $200 which means the creditor took a loss and you only paid $200. You never have to deal with them again! However, you may be responsible for reporting the $800 savings on your taxes as debt forgiven. Which means your income for that year just went up by $800 and you now have to pay taxes on it. If your tax bracket is 25% then you now owe the government $200 additional. Therefore, in total for that debt you have paid $400.
It sounds unfair and some may wonder if the process is worth it. I believe it is still worth it to pay off the debt. You must protect your online reputation, pay the debts you owe, and make good on your commitments. This is just a different way of going about it. The finish line is still there. You just took a different route. Knowing how the process works helps you develop your strategy for getting free. Don’t allow the tax implication to stop you from your freedom. Now go pay off that debt!