Car Repossession Can Come with a Tax Hit

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A recent news report said that 7 million auto loans are currently over 90 days past due. That means the owner has not made a car payment in 3 months or more.

That likely means on thing. A whole bunch of car repossessions are about to happen. If you, or someone you know, is looking at this issue, then make sure you read the rest of this blog.

A car repossession could mean a big tax hit for you.

Think about that. You lose your car, your credit gets beat up, you lose the car down payment and all the payments and then Uncle Sam says you owe a bunch of taxes.

This is due to something called “COD” or “cancellation of debt” income. That means that you have had debt forgiven. You owed a business or lender some money and they agreed to stop trying to pursue you for the debt. In other words, it’s a write-off for them. But it also means a write-off for you. And that’s where the debt forgiveness or cancellation of debt comes into play.

Here’s how it might work in real life.

Let’s say you buy a car for $40,000 and put $2,000 down. You make payments for a few years, with most of the payment going toward interest. And in our example, we’ll assume you pay down the debt by another $8,000 in those two years. That means you now owe a debt of $30,000. That’s $40,000 less the $2,000 down and less the $8,000 worth of payments.

The lender comes and gets the car. They pay someone to do that and they have to pay a law firm to handle the paperwork. Let’s say that all costs another $2,000.  Be sure that no one is discounting their costs on this. It’s likely that $2,000 is cheap.

So, there is a total now, just using my assumptions, of $32,000. The vehicle goes to auction and after the auction fees, the lender ends up with $17,000. That means there is still money due the lender.

They may decide to go after you for it   and sue you, but most likely they just write off the difference. That’s $15,000, which is calculated as $32,000 (the amount of the loan plus the fees for repossession) less the amount they received, net of expenses, from the auction of $17,000.

That means you will receive a Form 1099-C, showing cancellation of debt of $15,000. That means, unless you file for an exemption, that you’ll have to pay tax on that $15,000.

The exemption would be on Form 982 and, in the case of COD income related to an auto, your only options are that you are either insolvent (you owe more than you own) or you declare bankruptcy. There are more options if you have COD related to real estate.

Don’t skip filing the Form 982. The assumption is that you owe tax on the income unless you take the exemption.

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