A Short Sale Warning

The referenced blog post states "the resulting debt forgiveness will be treated as income by the IRS". I was under the impression that the Mortgage Debt Relief Act of 2007 specifically eliminated the tax liability for a short sale.

So, what's the straight story?

Thanks!

Chris Farrell : responding to Ryan | Respond
September 15, 2008 9:56 AM PT

Good point, and thanks for the heads up…

I'll leave up the post...

The Mortgage Forgiveness Debt Relief Act of 1007 made some important changes to the tax treatment of short sales and foreclosure.

If the short sale is between January 1, 2007 and December 31, 2009, a homeowner will not get hammered on the federal income tax front if the debt is for their primary residence. (The rules for state income taxes still vary depending on the state.)

However, there are caveats. The break on income taxes is only for debt that comes from the purchase of a home and improving the property. For instance, it doesn’t cover the amount of a second mortgage or home equity line of credit used to consolidate credit card debt. There’s still a tax liability attached to that portion of the debt.

The debt forgiveness doesn’t include second homes, vacation homes, business and investment property.

Nevertheless, the change in the tax treatment of debt forgiveness in a short sale and foreclosure was a good move by Congress and the White House. My guess is that the program will be extended.

I am in a panic. I bought 5 investment properties and I can't rent them and will default very soon. Would it be better to do a short sale or a bankruptcy chapter? I have been trying to sell, but no luck.

These duplexes are in Chattanooga and I live in Atlanta.

I don't want to lose the home I have lived in for the past 30 years. I still owe 40,000 on it.
I don't have money for a lawyer.

Please advise me, I would so appreciate any help.

Thanks

I just completed a short sale. The sale price on the house was 212,000. The first mortgage was 215,500. The cost of the house plus improvements was 201,000. The closing costs plus unpaid mortgage interest, taxes and insurance during the 13 months we couldn't make the payments is 46,500, running our total debt to the mortgage company at closing to 262,000. However, since we had mortgage insurance, the mortgage company received all the money due them, and took no loss on the house sale. Given your understanding of the debt forgiveness law, do we have any mortgage debt forgiveness since our debt to the mortgage company was totally covered by insurance? It seems our only debt forgiveness might be to the insurance company. However, since we paid for the mortgage insurance for 15 years, and have had no formal, written debt obligation of any kind to the insurance company, do we have any mortgage debt that has been forgiven and claimed as income for tax purposes?

Thanks for your input.

Tim

Chris,

Do you have any response to my question in the previous comment?

Tim

Chris Farrell : responding to Tim | Respond
December 5, 2008 7:00 PM PT

First of all, on a question like this you realy need to consult with a professional to get expert advice. I know money is tight, but the law has changed, and I only know the essential features of the law change and not the wrinkles. (And those wrinkles exist.)

My understanding is that you don't have any tax obligation on the short sale. A year ago, Congress changed the law--and the President signed the bill--offering temporary tax relief to homeowners in a short sale. The relief was only for 2007 through 2009. It then expires.

It used to be that the IRS would tax you on the amount forgiven on a short sale. No longer. The amount forgiven is excluded from your taxable so long as it involves your principal residence, which it does in your case. (There are other details, such as it can't be an investment property or vacation home, and no more than $2 million can be forgiven and excluded from taxable income.) Another feature of the law to emphasize: If home equity loans are part of the short sale the money is only excluded from taxable income if it was used on the home (such as home improvements). If the home equity loan was used to consolidate credit card debt or to buy a car, that portion of the home equity loan is considered taxable income.

Chris -

The assets of our multifamily (family) business (LLC)were sold in a short sale. We still have two properties that we homestead in MN in our personal names (not the business) - we are undergoing a divorce after 3 decades but haven't yet due to health care premiums (my husband is a public servant and my health costs will be more than prohibitive when we divorce). Our accountant estimates we will have a $300,000 tax liability. All of our assets were cashed to try and hang on to the buildings. We have little left other than these two houses with little equity (less than 200k between the two). Are we stuck? The LLC doesn't really exist anymore...are we really personally liable for its debts? We are in our late 50's and would spend the rest of our working lives paying this tax bill - if we could ever get ahead of the penalties...should we escape to third world countries (separate ones) and live underground??? (Here's part of the rub - we could have retired on the proceeds had we sold and retired 5 years ago!) So, are we doomed? - Elizabeth

I am writing regarding an approved short sale. Is it legal for a MIP company to require that I pay a fixed amount in an interest free loan over the course of some years to make up for the loss, in order to get them to approve the deal? The deal has been approved by the bank and now I find out that the MIP company wants us to pay approx. 20% of the original price of the home over 20 - 30 years?

I LIVE IN CALIFORNIA,HAVE MY ONLY ONE HOME(I LIVE IN)IN SHORT SALE, MY REAL ESTATE AGENT SAY EVERYTHING ITS GOING TO BE FINE FOR ME AFTER THE SALE,MMMMM? IN WHAT THINGS DO YOU THINK I HAVE TO BE ESPECIALLY ALERT BEFORE TO SIGN THE CLOSING DOCUMENTS, LIKE, AVOID DEFICIENCY JUDGMENT AGAINST ME, WHAT ABOUT THE 1099, AND IS CALIFORNIA A NON-RECOURSE STATE, IT'S GOOD OR BAD? AND HOW TO NOW IF MY HOUSE IS A NON-RECOURE HOME...THANK YOU...RINNA

I have a situation where my ex-husband and I owned an large established business together. When we divorced, in lieu of spousal support I opted for half of the business proceeds. I later renegiotiated the agreement to much less to be receieved monthly so that I could depend on the income received to pay my monthly mortages. My ex-husband paid me regularly for several years then stopped paying because he said his business was declining due to the economy. He went into another line of work and at that time he said paying me back and getting current would be his first priority.(who knows though--he may change his mind and never pay me again--I am not depending on this there is no guarantee) The nature of his new business is similar to the business we shared so I know it will take quite a while to get to the point of making any profits. The job I work pays only my necessities (and nothing more)--utilities, groceries, telephone, etc.

My question is: My house is now on the market--I am selling it on a short sale. I have a 1st and 2nd mortage on the property. How will I fare tax-wise on a sale like this? Will I have to pay anything now or down the road? I am 60 years old and have no retirement.

Any suggestions?