Did you know that if you got a mortgage workout from your lender you don’t have to pay income taxes on it?
You see, until last year, the money that your lender forgave (whether in a short sale, a deed in lieu, foreclosure, or even a loan modification) would have been considered taxable income. That means you would have had to pay taxes on your normal income plus the amount your lender forgave!
But that’s no longer the case. In late 2007, Congress passed a bill that provides a special tax relief provision in these cases.
According to Anderson Business Advisors,
Under a special rule that applies to years 2007 through 2012, taxpayers can exclude from taxation up to $2 million ($1 million for an unmarried person filing separately) of home “acquisition” debt forgiven on their principal residence. Debt forgiven on second homes, rental property, business property, credit cards, or car loans do not qualify for this special tax-relief provision.
If you had a workout complete in 2008 or you have one complete between now and 2012, you won’t have to pay taxes on that phantom income.
You will receive a Form 1099-C from your lender that reports this phantom income to you (and to the IRS). And you will have to file that 1099-C with your taxes. But it’s just an informational filing and the dollar amount on the form does not have to be included in your income.
For more information and the complete story, please check out “A Tax-Free Provision for Mortgage and Debt Relief Workouts” on the Anderson Business Advisors website.
You many also want to check out our state foreclosure law summary to see what your state laws have to say about foreclosure timelines and redemption periods if you’re still in the foreclosure process.
** Mandatory Legal Disclaimer: The advice on Truth in Foreclosure is not to be considered as legal or tax advice. Please see our disclaimer for more information.
April 6th, 2009 at 10:19 pm
me and my brother in law bought the house 2005
my brother in law have his primary house
me and my husband live in the house(our primary home)and pay the mortgage and property tax
we want to short sale the house
are we going to pay tax if my brother in law have his primary house (difference
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Todd Temaat Reply:
April 11th, 2009 at 4:45 pm
If you own the house and make the payments, you should be able to escape paying taxes on it. I’d recommend reading through the IRS guidance on this because we can’t give tax advice.
However, based on our experience, most people that sell their home through a short sale do not have to pay taxes for one of two reasons.
1. They meet the qualification guidelines mentioned in the article above
2. They were actually insolvent when the home was sold (which is another reason for exemption).
Again, please check out the IRS site…specifically, this article on Home Foreclosure and Debt Cancellation.
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September 9th, 2009 at 3:29 pm
Any good links to tax implications for individual states? We are from California, and it looks like we will not have the same tax protections as at the federal level. If we do a short sale this could mean $300k+ in taxable phantom debt, even more if we go with foreclosure. We are trying to cofirm this? Can you suggest any help? thank you.
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Todd Temaat Reply:
September 28th, 2009 at 9:20 pm
Try this: CA Proposition 8: Decline in value
I also contacted Brent Lane who lives in Sacramento and may be able to help out.
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