Mortgage Forgiveness Debt Relief Act Extended through 2013
Written by Emil Fleysher | January 19, 2013 | Bankruptcy
Part of the fiscal cliff deal signed by Congress this past December dealt with the tax consequences that loan modifications, short sales, and foreclosures have on the American tax payer. Their decision extended the current Section 108(a)(1)(E) so it expires December 31, 2013. Current tax law states that anytime a mortgage is reduced (the mortgage must be recourse, or where the signer has personal liability beyond the home value), the borrower is required to recognize Cancellation of Indebtedness, or COD, to the extent of the value forgiven. That means that if you negotiated with your lender and short sold your home for an amount less than what is due, you must still declare the value that was forgiven as income for tax purposes.
For example: Borrower owns a primary residence with a principal balance of $300,000 owed to Bank of America. After the property declines in value to $200,000, the Bank of America and Borrower agree to enter into a short sale. As a result, Borrower sells the home to an unrelated buyer for $200,000. Borrower remits the $200,000 sales price to Bank of America in settlement of the $300,000 debt, leaving Borrower with a $100,000 remaining deficiency. If Bank of America forgives the remaining deficiency, Borrower will recognize $100,000 of COD income.
Without this exclusion, only those who were insolvent or had declared bankruptcy would be eligible to have their excess mortgage debt forgiven by both the lender and the IRS. The extension of this exclusion prevents borrowers from being obligated to pay tax on the forgiven deficiency and allows forgiveness in similar cases where primary residence debt has climbed significantly higher than the current home value, as is the case for 97% of Americans. The limit on relief under this Act is capped at $2 million dollars.
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