Cancellation of Debt Review by Audit
In our February 2011 Tax News edition, we announced an effort to assess public compliance with the reporting of Cancellation of Debt Income (COD Income). We thought it would be good to give you an update on what we found and some useful information on how to report COD income.
We determined that most taxpayers were recognizing the correct amount of COD income. However, during our audit contacts we found some recurring errors that most likely would have prevented the selection of the return for review. These were:
- Inaccurate Form 1099-C or 1099-A. More than 50 percent of the taxpayers had received an inaccurate Form 1099-C. If you think the lender has incorrectly calculated COD income, you should request a revised 1099-C prior to filing a tax return.
- Not Making Proper Election. Several taxpayers did not attach federal Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness. Other taxpayers disclosed COD exclusions on various other statements within the return rather than completing federal Form 982.
- Insolvency. Taxpayers claiming insolvency did not include Form 982. When you attach this form, its supporting worksheet(s), and the tax attribute reduction schedule to the tax return, we can more easily identify the valid COD income exclusion. Those who claim Insolvency also should reduce tax attributes as required by IRC Sections 108 and 1017 due potential impact of basis in remaining real property holdings.
- No Disclosures. Taxpayers did not report COD income, gain, or loss from foreclosed property on the return. You must include a copy of your federal return, including Form 982 and Section 1082 Basis Adjustment with your original California tax return. There is no similar California form.
Based on our findings, we do not plan to expand this project to future years. However, we may continue to examine COD income, as needed, through the normal course of our audit program.