Americans are increasingly agitating for debt relief. In the last decade, there have been national campaigns to cancel student debt, credit card debt, and mortgage debt. These national campaigns have paralleled local efforts to cancel taxi medallion debt, carceral debt, and lunch debt. But as the public increasingly pursues broad-scale debt relief outside bankruptcy, they face an important institutional obstacle: cancelled debt is generally taxable.

The taxability of cancelled debt is often raised by opponents as an objection to broad debt cancellation and potentially discounts the value of any debt relief. The conventional account for why we tax cancelled debt is that debt incurred in one year and cancelled in a later year reflects an accretion of wealth that ought to be taxable. The conventional account naturalizes the tax in a way that obscures its present function and history. This Article seeks to clarify its present function and recover its history.

Modern credit markets grew, in part, because of policy decisions in the 1970s and 1980s to manage distributional conflict with credit. As Abbye Atkinson has argued, easy access to credit and a shrinking welfare state meant that credit replaced direct transfers as our primary form of social provision. One consequence of these decisions is that the modern tax on cancelled debt functions less as a measure of wealth and more as a punitive tax on excessive debt. This Article suggests that this shift was partly by design. In the 1980s and 1990s, Congress made changes to tax administration that operationalized the tax in a way that would primarily affect individual debtors. These changes corresponded to a broader shift in the policymaking landscape towards market-based solutions for policy problems, and this Article situates the development of the tax within the context of these larger political shifts.

This Article argues that the tax on cancelled debt is the product of broader political forces and not just the internal logic of tax. This reorientation enriches and deepens existing critiques of our tax and financial system by revealing how the tax on cancelled debt contributes to the regressivity and racial inequity of our federal income tax and what some scholars term the acoustic separation of credit and debt in federal policy. It also suggests it is time to reconsider the wisdom of taxing cancelled debt. And this Article concludes by proposing changes to tax administration and the tax code that would sharply circumscribe the scope of the tax.