Debt forgiveness is the process of writing off all or a portion of a debtor’s outstanding debt. Forgiving debt may take place in order to minimize the amount of loss incurred by a lender due to defaults. The process has also been used to help bolster the economy of a nation by other countries choosing to write off debt associated with resources borrowed in years past.
Making a decision to engage in debt forgiveness can have some advantages for creditors. When authorization to forgive debt is granted, the creditor can cease expending time and resources in an attempt to collect the outstanding debt. From that point forward, those resources can be utilized for other, more productive, endeavors. In many countries, laws and regulations that have to do with credit debt allow the creditor to claim a tax deduction on all or part of the total forgiven debt. This helps to further minimize the overall loss of revenue to the creditor.
Debtors are provided with the opportunity to be free of all or part of the debt. This can be a tremendous help when the debtor has undergone financial reversals and is no longer able to honor the debt. However, the total amount of debt forgiveness extended to the debtor may be taxed as income, depending on applicable laws. While providing temporary relief from the debt, this can mean that the debtor will be classed in a higher tax bracket for the year and have a substantial tax debt to settle after the completion of the tax year.
The act of debt forgiveness can also take place between nations. For example, a nation recovering from a natural disaster may not be in a position to pay on debts owed to other countries for several years after the disaster takes place. Rather than cripple the internal economy of the country, the creditor nations may choose to engage in a loan writeoff. It is not unusual for this to take place if there is a strong indication that the collapse of the economy of the stricken country may in turn have an adverse effect on the global economy.
Whether applied to financing situations between individuals and lenders or loans established between two or more countries, the process of debt forgiveness is not something that takes place until all possible options are explored fully. Generally, debt is not written off if there is a reasonable chance that the financial condition of the debtor will reverse in a time frame considered acceptable by the creditor. However, debt forgiveness is often the most logical and productive course of action if there are no indicators that the debtor will be able to resume paying on the debt within a reasonable amount of time.