Probably yes, but there are important exceptions. When a creditor forgives $600 or more of your debt, they're required to send you (and the IRS) a 1099-C form. The forgiven amount is treated as taxable income.

Here's how the math works. Say you owed $20,000 on a credit card and settled for $9,000. The creditor forgave $11,000. You'll receive a 1099-C for $11,000, and you'll need to report that as income on your tax return. If you're in the 22% federal tax bracket, that's an additional $2,420 in taxes.

This catches a lot of people off guard. You just finished a settlement program, you're finally out of debt, and then you get a surprise tax bill in January or February.

The insolvency exception: This is the big one. If your total liabilities (everything you owe) exceed your total assets (everything you own) at the time the debt was forgiven, you may be able to exclude some or all of the forgiven amount from your income. You claim this using IRS Form 982.

For example, if you had $50,000 in total debts and $30,000 in total assets when the debt was forgiven, you were insolvent by $20,000. You could exclude up to $20,000 of forgiven debt from your taxable income. Since many people in settlement programs are insolvent, this exception applies more often than you'd think.

The bankruptcy exception: Debt discharged through bankruptcy (Chapter 7 or Chapter 13) is completely excluded from taxable income. This is one reason some financial advisors recommend bankruptcy over settlement for people with very large debts.

What to do about it: Keep records of all your debts and assets at the time each settlement is finalized. You'll need this documentation if you claim the insolvency exception. Work with a tax professional, ideally a CPA or enrolled agent who has handled 1099-C forms before. The insolvency calculation involves listing every debt and every asset you had on the specific date the debt was canceled, and getting it wrong could trigger an audit.

Also, don't ignore the 1099-C. The IRS has a copy. If you don't report it, you'll get a notice, and you'll owe the tax plus penalties and interest.