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CAN COMPLYING WITH IRS REGULATIONS IN FILING IRS FORM 1099-C CANCEL A JUST DEBT UNDER STATE LAW?
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By: Thomas V. Keough, Partner
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Occasionally, banks and other creditors file form 1099-C as required by IRS regulations and send a copy to the debtor. Form 1099-C is filed by a creditor with the IRS when a debt is canceled or forgiven, or when an “identifiable event” occurs as defined in IRS regulations. The IRS requires form 1099-C even when the debt at issue has not been forgiven or compromised. Upon receiving copies of form 1099-C, very often debtors will assume that their debt has been forgiven--even though there has been no agreement between the debtor and the creditor, and the debtor has made no payment on the debt.
This issue has come up repeatedly in litigation throughout the country. An overwhelming majority of courts’ opinions on the issue have held that the mere filing and providing a copy to the debtor of an IRS form 1099-C, without actual evidence of a payment or a compromise of the debt, is not itself evidence of the cancellation of the debt under state law.
When a debt has actually been forgiven, the 1099-C causes no problem, but there are circumstances under which Federal statutes and regulations require the filing of Form 1099-C even when the debt has not been forgiven. Under authority of 26 U.S.C. §6050P, the Treasury Department promulgated regulations setting forth when a 1099-C must be filed. The relevant regulations are set forth at 26 C.F.R. §1.6050P-1(a), Treas. Reg. §1.6050P-1(a) which requires any entity that discharges an indebtedness of at least $600 to report this to the IRS on Form 1099-C and provides:
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[A] discharge of indebtedness is deemed to have occurred ... if and only if there has occurred an identifiable event described in paragraph (b)(2) of this section, whether or not an actual discharge of indebtedness has occurred on or before the date on which the identifiable event has occurred.... (emphasis added).
26 C.F.R. §1.6050P-1 (b)(2)(H) defines “identifiable events” as: “In the case of an entity described in section 6050P (c)(2)(A) through (C), the expiration of the non payment testing period, as described in section 1.6050P-1 (b)(2)(iv).” The non payment testing period is defined in 26 C.F.R. §1.6050P-1 (b)(2)(iv) as follows:
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a 36–month period increased by the number of calendar months during all or part of which the creditor was precluded from engaging in collection activity by a stay in bankruptcy or similar bar under state or local law. The presumption that an identifiable event has occurred may be rebutted by the creditor if the creditor (or a third-party collection agency on behalf of the creditor) has engaged in significant, bona fide collection activity at any time during the 12–month period ending at the close of the calendar year, or if facts and circumstances existing as of January 31 of the calendar year following expiration of the 36–month period indicate that the indebtedness has not been discharged.
In short, when the debtor has not paid any thing in 36 months, the IRS requires that the creditor file a 1099-C and provide a copy to the debtor. The IRS itself does not deem the filing of a form 1099-C as evidence of the cancellation of the debt but merely as evidence of compliance with Federal tax regulations. In an IRS information letter issued in 2005, the IRS stated: “the Internal Revenue Service does not view a form 1099-C as an admission by the creditor that it has discharged the debt and can no longer pursue collection.” IRS INFO 2005-0207, 2005 WL 3561135.
Most courts which have addressed this issue, some citing the aforementioned IRS information letter, have held that IRS form 1099-C is not evidence of the cancellation of a debt:
- Ware v. Bank of America Corp., 9 F.Supp.3d 1329, 1341 (N.D. Ga. 2014) (the issuance of IRS Form 1099-C does not even raise a genuine issue of fact in support of a debtor’s summary judgment motion);
- Capital One, N.A. v. Massey, 2011 WL 3299934 (S.D. Tx. 2011) (“the fact that the Plaintiff (creditor) issued a 1099-C in relation to the Borrower’s indebtedness is irrelevant and does not raise a material issue of fact in this lawsuit”);
- FDIC v. Cashion, 2012 WL 1098619 (W.D. NC. 2012) (“the fact that the (creditor) may have issued a Form 1099-C in relation to the Defendant’s indebtedness, does not, standing alone, raise a genuine issue of material fact regarding the Defendant’s liability on the note”); and
- Owens v. Commissioner of Internal Revenue, 67 Fed. Appx. 253 (5th Cir. 2003) (1099-C issued by the FDIC to a debtor was not evidence that the subject debt had been cancelled).
There are a number of cases, primarily from bankruptcy courts, which give greater weight to the creditors’ issuance of the form 1099-C. However, these cases are outliers and many courts have declined to follow their holdings. See, In re Crosby, 261 B.R. 470 (Bankr. D. Kan., 2001); declined to follow by Menres v. Capital One, N.A., 2014 WL 1767079 (W.D. Ws, 2014); Debt Buyers Association v. Snow, 481 F. Supp. 2d 1 (D. DC., 2006); In re Zrike, 407 B.R. 684 (Bankr. W.D. Pa., 2009). These cases are in the distinct minority, have not been given any precedential weight, and can usually be distinguished on facts.
Although the filing by a creditor of a 1099-C does not serve to cancel a debt under state law, a debtor may still assert the issue as a defense. A creditor should be prepared to demonstrate to the court that the debt has not been satisfied and that the filing of the 1099-C was simply in compliance with IRS regulation.
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