Thank you for giving me the opportunity to assist you. I will give the best answer that I can with the information provided.
Current income has nothing to do with insolvency, it is simply a calculation of your total debts (immediately before forgiveness of debt) minus your total assets.
Since you live in CA--you must list your assets according to community property law--generally 50-50%.
You are not required to send the IRS a worksheet of assets and debts or a detailed letter. Less is best when filing. If they ask for this later though, you would want to have the information available. There is a worksheet in Pub 4681 to help you calculate insolvency. http://www.irs.gov/pub/irs-pdf/p4681.pdf
Form 982 is relatively simple, you need to check the correct box and enter the amount of debt that can be excluded due to your insolvency.
Sorry for the delay--needed to do research.
Cancellation of debt as income is determined as loan balance minus FMV on 'Recourse loans" (for which you are personally responsible). See: http://www.irs.gov/newsroom/article/0,,id=174034,00.html
For sample calculations.
If the assets that you inherited from your father are owned by you, and you have access to these funds/property, then they are considered your assets. Think of it like this---if you were trying to qualify for a loan, and you were listing your assets and property---would the inherited property be part of this list? Retirement funds are also considered assets.
It appears that you are insolvent to the degree of $42K--
Please note, that since this is an investment property you may have a deductible loss. Calculation for the loss on property examples can also be found:
I am not clear by your answer ($42K involvent) if I am liable for all or some of the 1099-C income. Please see the first paragraph of my question and the last sentence of my qustion.
The 273 K is the amount of cancellation of debt from the property that is potentially subject to income tax.
From your insolvency worksheet, your total debts were $42,000 more than your total liabilities, so using the insolvency exception, you could exclude $42K of the 273K from income.