Can Credit Card Debt Affect Your Tax Return

Credit card debt significantly affects your credit score, but does it affect your tax return? Many people ask whether or not they can get their refunds when they account in collections. It is clear that private credit card issuing companies have no access to your tax refund. But is settling a debt a good idea, and does it have any tax penalties? Let's find out in this article.

Refund Garnishment

If you owe money to your credit card issuer, the company can’t garnish your refund to cover the debt. But, the issuing company can put a lien on your bank account. As a result, you will have your funds seized.

In general, the collection agencies and credit card companies can’t garnish your tax refund. However, they can take sue you for your debt and most probably, they will get the verdict in their favor. It means the court will order you to pay off the debt. In such a situation, the issuing company will be at full liberty to take control of your bank accounts.

Your tax refund can be garnished by the government, which includes debts like unpaid federal or state taxes, student loans, or child support. On the other hand, when you don't owe a debt to a federal or state agency, they won’t process your refund. Instead, they will send the money to you.

In contrast, if you have a lien on your bank account, you can't request your refund because they won’t be able to deposit it directly in your bank account. A credit card issuing company or a collection agency will take your tax refunds.

Settlement with creditors

It is essential to make a settlement with your credit card company because it has profound effects on the amount of money you get back in the tax time. Make sure you don’t settle your credit card debt less than the amount you owe for the last 12 months. Otherwise, the issuing company will send you a 1099-C form, which means you will have to pay taxes on it.

You can make a settlement with the company, and they will send the form to the IRS. The IRS will contact you and discuss the situation. There is one downside to a settlement with your creditors – i.e., you will be held responsible for penalties and late fees for not reporting it.

Start Planning for your settled debt

If you have settled debt over the last 12 months, it is time to plan for the amount you owe in taxes for the amount of forgiven money. It is essential to plan on 30% towards federal and 10% toward state taxes. The numbers can vary based on your filing status and income.

Keep in mind that your credit card debt can't prevent you from receiving the tax refund. However, it will inevitably affect a refund that you will receive in the situation of debt settlement. In case you owe taxes because of the debt settlement, you should start planning to save yourself from future consequences.

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Thomas Moore is a proud American with a Bachelors Degree in Business Administration from the University of San Diego. He has been in the financial industry for many years holding numerous licenses in multiple states. He currently helps operate cashkingco.com and is our resident expert on all things finance and a great writer. Thomas is also an avid outdoor enthusiast that loves fly fishing streams in the Western United States. LinkedIn Profile