Dear Debt Adviser,
I recently sold my home in New York in a short sale after 14 years. At the time of the sale, the amount owed on the home was $390,500. We sold the home for $187,917, which leaves $202,583 to be forgiven. How much of this amount is taxable?
Your question reminds me of the Batman/Riddler stories in which the Riddler gives clues to nefarious goings-on in the form of a riddle. I can hear him asking, “If no good act goes unpunished, when is debt forgiveness taxable?” This may sound like an IRS riddle, but its answer can cost or save you thousands of dollars. Normally, if a debt over $600 is forgiven by a creditor, the creditor will notify the IRS. You will have to treat the forgiven debt as income that’s fully taxable even though you received no cash in the short sale transaction.
However, because so many people were faced with potentially huge tax liabilities through debt forgiveness as a result of unsupportable mortgages, Congress passed an act that exempted a forgiven mortgage loan from taxation for a limited time and under certain conditions. Relief is available to you and many others who lost their homes to foreclosure or a short sale, or who modified their mortgage loans for less than was originally owed.
Aptly called The Mortgage Debt Relief Act of 2007, this law gives persons with qualifying debt forgiveness in the years 2007 through 2012 a break on the income tax that would normally be owed on forgiven debt. Generally, as long as the mortgage loan is for your primary residence and the amount of debt forgiveness is no more than $2 million ($1 million if married, filing separately for the tax year), it is a simple matter of filling out an additional form when you file your taxes.
You already should have received a Form 1099-C from your lender that lists the amount of debt forgiveness and fair market value of your home. Using that information, you should fill out IRS Form 982, a second debt forgiveness document, and send Form 1099-C and Form 982 in with your tax return for 2009.
For my readers who are currently having trouble meeting their mortgage payments, I encourage you to contact your lender sooner rather than later. Banks are not real estate brokers and, for the most part, would like to avoid the position of owning homes that have gone into foreclosure. However, banks are dealing with record numbers of distressed homeowners, so their desire to not own your home may not be enough to get you a quick resolution. If you get bogged down in red tape, I suggest you bring in a professional to help. You can find great free help from HUD-certified counselors at Hope Now, an alliance between counselors, mortgage loan companies, investors and others to reach out to homeowners in distress.
Counselors for Hope Now can help homeowners stay in their homes, if possible, or can come up with the best exit strategy if they need to terminate their mortgage. The Homeowner’s Hope Hotline is (888) 995-4673. For those of my readers who may not want to contact a live person right off the bat, they can get some valuable free mortgage help and information at Mortgage Relief Online, a Web site designed to help consumers determine if they are eligible for mortgage loan changes.
A word of caution to anyone seeking a mortgage modification. Be careful! Scams are rampant in loan modifications. Unscrupulous companies and individuals are taking advantage of consumers who are worried about losing their homes. Below are some things to watch for when seeking mortgage help:
- Fees required in advance.
- Guarantees that your foreclosure will be stopped.
- Requests that mortgage payments be made through a company other than your lender.
- Pressure to sign documents.
- Unsolicited offers of help that ask for personal information online or over the phone.