Excessive debts can make everything overwhelming, including paying your bills every month and even doing your taxes. If you have a lot of personal or business debts and you are wondering if they could have an effect on your taxes, the answer isn't simple. It depends on which type of debts you have and several other factors. Here are five things you need to know about debts and taxes:
1. Personal debt forgiveness
If you've been working with a credit counsellor to get your debts under control, you may have settled some of them. A settlement is when you pay a creditor less than you owe and they, in exchange, write off the remainder of your balance.
If you write off debts with an American creditor, the creditor may send you a form 1099 for forgiven amounts over $599. If you file a US tax return, the amount on that form needs to be declared as income. However, if you exclusively file a Canadian tax return, you do not have to worry about the obligation to report forgiven debt unless the forgiven debts were business debts.
2. Commercial debt forgiveness
Under section 80 of the Canada Revenue Tax code, commercial entities who experience debt forgiveness are obligated to report the forgiven amount on their tax returns. The amount you need to claim and how you need to report it varies depending on the amount forgiven and the type of business you run. Ideally, you should have a tax accountant or a debt counsellor help you understand how to report your forgiven debts.
In general, however, corporations include forgiven amounts as income at the capital gains inclusion rate. Farmers, investors and others with capital losses can apply the forgiven amount to their tax losses. If you have not settled any debts but are working with a debt counsellor to pay down your debts, you may be able to lower your tax burden by claiming some of your interest payments on your tax return.
3. Interest on investment loans
If you have borrowed money to invest it, you can write off the amount of your interest payments on your income taxes. Sadly, you cannot write off interest from money you borrowed to invest in your RRSP, TFSA, RDSP, RESP or a few other retirement and education savings funds. However, you can write off interest from money borrowed for other capital investments.
4. Student loan interest
If you are busily repaying your student loans, remember you can write off the interest paid. If you have loans through the Canada Student Loans Act or the Canada Student Financial Assistance Act, you can write off the interest on your loans. This interest does not come back to you in the form of a refund. Instead, it reduces your tax owed amount. If you do not have any tax owed, keep a statement of the interest you paid. You have up to five years to report it.
5. Bad debts
Are you having trouble paying off your credit obligations because others owe you money? If so, you may be able reduce your tax burden by claiming some of those unpaid debts as business expenses. By reducing your tax burden, you effectively boost your income and the amount of money you have available for debt reduction. Sadly, you cannot write off unpaid debts from your old roommate or your little brother, but if you have a business, you can write off unpaid invoices or unpaid loans.
For more details on how your debts may affect your taxes, contact a debt counsellor. They can help you optimize your debt repayments in regard to your tax obligations. If you have tax debts, they can also help you work with the CRA to resolve those debts.