At a Glance
During your search for a personal loan, you may have asked yourself are personal loans taxable. The answer to this question depends on what happens during the life of the loan. Read more to learn about this important topic.
What is taxable income?
Before diving further into potential personal loan taxes, it’s important to look at what exactly taxable income is. In general, taxable wages include any salaries, wages, freelance earnings, tips, and potential bonuses a person may receive. Some income such as scholarships, child support, tax returns, and more are untaxable forms of income. However, the question of whether a personal loan is taxable income remains.
Are personal loans considered income?
In short, the answer to is a loan considered income is no. The reason for this is that, while you are given the loan sum upfront, you are required to pay back the amount loaned to you. Additionally, income is defined as money that you earn, but a loan is given to you by a lender. Due to this, as well as the other point described above, there is no personal loan income tax unless there is a special circumstance.
Is a person loan tax deductible?
A personal loan is something that you owe to a lender, meaning that it is not income and is therefore not tax deductible. Additionally, due to a loans status as a liability, any interest paid on that loan is also non-tax deductible.
When are personal loans considered taxable income?
Personal loans are only considered taxable income when they have been forgiven. Only the portion of the loan that was forgiven, whether it’s the entire loan or just a small amount remaining, will be considered taxable at that point. This is because, by forgiving the loan, the lender turned that loan from debt to income for you.
Additionally, how you choose to use the loan can make it taxable as well. In some cases, using a personal loan for business expenses may make it taxable. The answer to the question of is personal loan interest tax deductible will also change in this scenario, as you may be able to write off some of that interest if it’s considered taxable.
1. Cancellation of debt (COD) income
If a lender doesn’t simply forgive the loan for traditional purposes, you may end up filing for a cancellation of debt with them. If approved, your debt will be cancelled, and the remaining loan amount will become taxable income. You will be provided with a 1099-C tax form after the lender reports the debt cancellation.
2. Exceptions to the COD income rule
Taxes on loans that have been forgiven may not occur if the loan was forgiven as a gift by a private lender, however the amount that is being forgiven may still incur some taxes down the road. Additionally, federal intervention for loan forgiveness may also allow the remaining amount to be non-taxable. On top of this, some employment professions may also be exempt from having this remaining amount taxed, and sometimes student loan debt may be forgiven tax-free.
Is personal loan interest tax-deductible?
No, a personal loan without tax returns (non-taxable) also has non-deductible interest payments. In special circumstances, such as if the personal loan was used for business expenses, you may be able to write off interest on personal loans. Additionally, student loans and other specialized loans will often allow interest to be tax-deductible.
What happens if a personal loan is forgiven?
In the rare event that your loan is forgiven, taxes on personal loans will begin to kick in for the forgiven amount. Say you borrow $10,000 initially and there is $4,000 remaining when the loan is forgiven. From that point, you will be responsible for paying taxes on that $4,000. Ordinarily, the question of whether loans are taxable has a quick no as an answer. In this special situation, however, the answer changes to a yes.
No, loans do not meet the definition of income as outlined by the IRS. Due to this, no loan is income, and, by extension, no ordinary personal loan is taxable unless special circumstances are at play.
Since loans are not a form of income and are a liability that you need to pay back, you do not need to report loans on your income tax return.
Yes, a personal loan can be used to pay your income tax if the amount you need to pay is above what you can. Remember that the answer to the question of personal loans tax deductible is no, so you will still have to pay the loan back.
Tax debt occurs when you fail to pay the IRS back in full for what you owe. While payment plans can be set up for paying your taxes, tax debt is one of the worst types of debt to find yourself in.
Gather all pertinent tax documents and information as you go through the year and keep them in one easy-to-reach location. The answer to the question of do you pay taxes on loans is no, so do not worry as much about combining your tax and loan finances. However, begin setting aside any money you can to pay both your loan each month, as well as your taxes when it’s time to pay.