What is Debt Forgiveness?

Published by Thomas Herold in Laws & Regulations

'Debt Forgiveness' is explained in detail and with examples in the Laws & Regulations edition of the Herold Financial Dictionary, which you can get from Amazon in Ebook or Paperback edition.

Debt Forgiveness refers to the action of writing off all or some of a debt which a debtor has outstanding and usually simply cannot hope to repay. This act of forgiving debt can occur for the purpose of reducing the total sum of loss which the lender will otherwise incur because of defaults. From time to time, this idea has been pursued to strengthen the national economy in countries that would rather write down their debt against resources they borrowed on in prior years.

There are definite advantages for a lender or creditor in choosing to pursue debt forgiveness with their borrowers. When they grant this forgiveness of debt, they can save huge amounts of resources and wasted time trying to collect on a bad debt. This means that such resources are then freed up for more productive activities going forward. In a number of countries, the regulations and laws concerning credit and debt permit the creditor to claim an associated tax deduction for at least some if not all of the debt which they forgive. This enables them to additionally reduce the revenue loss from the anticipated income stream of the borrower’s payments.

In these scenarios, debtors receive the opportunity to escape from part of even all of the debt in question. This can significantly help them to ease their financial case especially after they have suffered from various dramatic financial setbacks and can no longer honor the previously negotiated debts. One downside is that many sovereign governments choose to tax any and all debt forgiveness as real income. This means that while the debtor may enjoy a temporary form of relief from the burdensome debts, they may become categorized according to a higher tax bracket at least for that particular year. This could lead to a hefty tax bill which they cannot settle with the taxing authorities. It can create a whole host of new problems in place of the older and now forgiven ones.

The process of debt forgiveness even happens between one nation and another creditor country. It always helps to consider concrete examples of these concepts to better understand them. Nations which are recovering form devastating natural disasters could not be able to pay debts or even interest owed on them for a few years after such a disaster occurs. Instead of destroy the nation’s fragile economy at that point and time, creditor nations will often decide instead to simply write off the loan. This is not an atypical event when it is clear that the economy of the nation will collapse otherwise, especially as this often impacts the entire global economy should it occur.

It is not important as to whether such debt forgiveness is actually applied to individuals, companies, or nations. The process is generally the same. It is also rarely pursued before all other potential avenues are fully explored. Usually what will happen is that debt will not be written down or off if there is any practical possibility that the financial condition for the debtor in question will improve in an acceptable to the creditor time frame. Yet in the end, this debt forgiveness will typically prove to be the most intelligent and ultimately practical form of action if the debtor’s financial condition does not look like it will improve any time soon so that the debtor can actually resume their debt and interest payments in an reasonable time frame going forward.

Free Download (No Signup Required) - The 100 Most Important Financial Terms You Should Know!
This practical financial dictionary helps you understand and comprehend the 100 most important financial terms.

The term 'Debt Forgiveness' is included in the Laws & Regulations edition of the Herold Financial Dictionary, which you can get from Amazon in Ebook or Paperback edition.