Is SBA Debt Forgiveness Taxable?
Is SBA Debt Forgiveness Taxable?
Note: The writer is not a CPA or tax professional. This article is for general information purposes, and should not be construed as tax advice. Readers are strongly encouraged to consult their tax professional regarding their personal tax situation.
There's no doubt about it: negotiating an SBA loan settlement can be taxing. These days, lenders are so overwhelmed with defaulted loans that it can take an act of Congress to get them to even return your phone call. Then, when they do return your call, they ask you to fill out a series of onerous and confusing forms. Once you return that info, it's likely that your initial attempt as a settlement offer will be summarily dismissed. From there you negotiate, fighting tooth and nail in order to get a deal done. Finally, after weeks or even months of mind-numbing, energy-sapping negotiating, a deal gets done. You send them a check, and finally breathe a sigh of relief. After all, the situation is now over and behind you right? Well, not exactly. At least not according to the folks at the IRS.
Debt forgiveness, you see, is treated as taxable income. Why? In a nutshell, if someone gives you money and you don't have to pay it back, it's taxable. Just like you have to pay taxes on wages from a job. Part of the reason that debt forgiveness is taxable is because otherwise, it would create a giant loophole in the tax code. In theory, your boss could "lend" you money every 2 weeks, and at the end of the year they could forgive it and none of it would be taxable.
I've had clients ask me to try to negotiate the taxability of debt forgiveness. Unfortunately, no lender (including the SBA) has the ability to do such a thing. Just like your employer is required to send a W-2 to you every year, a lender is required to send 1099 forms to all borrowers who have debt forgiven. That said, just because lenders are required to send 1099s doesn't mean that you personally automatically will get hit with a huge tax bill. Why? In most cases, the borrower is a corporate entity, and you are just a personal guarantor. I know that some lenders only send 1099s to the borrower. The impact of the 1099 on your personal situation will vary depending on what kind of entity the borrower is (C-Corp, S-Corp, LLC, etc). Most CPAs will be able to explain how a 1099 would manifest itself.
While I can't tell you the specific impact that SBA debt forgiveness will have on you, the point of my article is really just to recognize that loan forgiveness does potentially have tax consequences that a borrower should look into so they can make the most informed decision possible.
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