IRS often follows where credit-card debt is forgiven

Q: Last year, I paid off some credit-card debts for my daughter. She is a single parent, makes very little money, and probably does not owe any income tax. But she did receive a form 1099-C, which says she must pay income tax on the debts I paid for her. This could cause her to owe tax which she cannot pay. I know I can give her a tax-free gift of $11,000 per year. Can I use this to cancel out this income she must report?
H.M., Bluemont, Va.

A: Anyone can give up to $11,000 a year to someone else without either the giver or the receiver reporting that gift to the IRS. So if you gave up to that much to your daughter to pay off the debt, or paid off the debt on her behalf, the IRS says this gift would be considered a nontaxable event.

But the fact that the credit-card company issued a Form 1099-C indicates to us - and to the IRS - that $600 or more of the credit-card debt was forgiven. The amount forgiven is taxable, according to IRS officials. So your daughter needs to add that to any other taxable income in order to determine her filing requirement.

If your daughter believes that the Form 1099-C is wrong, she should contact the credit-card company. Still, nothing prevents you from giving more money to your daughter to pay her taxes. It's tax free, as long as the amount remains under the $11,000 annual level.

Q: Because of my credit, three different banks turned down my request for a home equity line of credit. A broker has since offered me a 2-28 loan at 7.95 percent for two years. Then I am supposed to refinance. I haven't signed anything and have not gone to closing. It costs about $5,000 to go through this broker. Am I getting ripped off?
R.K., via e-mail

A: It sounds as if you're dealing with either a balloon loan or an adjustable rate mortgage. If it's an ARM, your interest rate is locked in for the first two years, and adjusts up or down for the next 28 years depending upon terms spelled out in the loan contract. With a balloon, you have to pay off the loan after two years, though lenders typically pledge that if nothing changes with your credit, they'll extend the terms.

Because of the loan's high interest rate and fees, accepting it will likely make your financial situation worse or possibly cause you to lose your home, says Barbara Steinmetz, a certified financial planner in Burlingame, Calif. Given that advice, you may want to reconsider.