Tax Implications of Short Sales, Foreclosures and Other Debt Forgiveness

Tax Implications of Short Sales, Foreclosures and Other Debt Forgiveness

Please let me preface this post by saying that I am not qualified to give tax or legal advice. Therefore, please seek the advice of a tax attorney or accountant regarding any legal or tax related issues. Now that we have that out of the way, the purpose of this blog post is to help people determien the federal tax implications and federal tax consequences of short sales, foreclosures and other debt forgiveness. According to IRS article, The Mortgage Forgiveness Debt Relief Act and Debt Cancellation, "Qualified principal residence indebtedness" is exempt from federal income tax. According to the article, "This is the exception created by the Mortgage Debt Relief Act of 2007 and applies to most homeowners." The article cites IRS news release, IR-2008-17: Mortgage Workouts, Now Tax-Free for Many Homeowners; Claim Relief on Newly-Revised IRS Form, IRS Publication 4681: Canceled Debts, Foreclosures, Repossessions, and Abandonments (for Individuals) and IRS Form 982: Reduction of Tax Attributes Due to Discharge of Indebtedness (and Section 1082 Basis Adjustment) as source documents.

According to IRS Publication 4681: Canceled Debts, Foreclosures, Repossessions, and Abandonments (for Individuals), "You can exclude canceled debt from income if it is qualified principal residence indebtedness. Qualified principal residence indebtedness is any debt incurred in acquiring, constructing, or substantially improving your principal residence and which is secured by your principal residence. Qualified principal residence indebtedness also includes any debt secured by your principal residence resulting from the refinancing of debt incurred to acquire, construct, or substantially improve your principal residence but only to the extent the amount of debt does not exceed the amount of the refinanced debt."  In other words, if the debt in question is original acquisition (purchase) debt then you will not owe taxes on the debt forgiven.  However, if you refinanced and pulled cash out, the tax implications of that debt forgiveness will depend on what the refinance proceeds were used for and how much was pulled out.  For example, if you refinanced and used all the refinance proceeds to renovate the home then you would not owe any tax on the debt forgiven.  However, if you pulled cash out then you would owe tax on the debt forgiven above and beyond the original acquisition debt balance.  Of course, the situation gets even more complicated if you refinanced several times and pulled cash out each time and used some of that money to make improvements to the home.  That is why it is important to contact a tax attorney or accountant to determine the tax consequences of a short sale, foreclosure, or other debt forgiveness. Please be sure to have your tax professional fill out and file IRS Form 982: Reduction of Tax Attributes Due to Discharge of Indebtedness (and Section 1082 Basis Adjustment) with you tax returns.

If you are a Middle TN homeowner, property owner, condo owner, real estate investor, home builder or real estate developer who cannot pay your mortgage payments (due to losing your job, having your income reduced, illness, health problems, adverse business conditions, slow sales, loss of investment property tenants, vacancy issues, lack of funds to complete the project, feuding business partners, etc.), know that you will not be able to pay your mortgage, have defaulted on your mortgage, are already in foreclosure, or owe more than your home is worth, please contact me to discuss your options including a loan modification and a short sale (a real estate short sale occurs when the sale proceeds are not sufficient to pay off all the mortgages and liens on the property/home). I am a Middle Tennessee distressed real estate, short sale, pre-foreclosure (preforeclosure) and foreclosure REALTOR and Expert. I primarily help sellers (homeowners, property owners, condo owners, owners of high end homes and properties (estate homes, luxury homes and executive homes), real estate investors, home builders and real estate developers) of distressed real estate, short sales, pre-foreclosures, foreclosures, investment properties, failed new construction projects and struggling commercial real estate developments located in Middle Tennessee (Rutherford County TN, Williamson County TN, Davidson County TN, Robertson County TN, Maury County TN, Murfreesboro TN, Smyrna TN, La Vergne TN, Eagleville TN, Lascassas TN, Rockvale TN, Christiana TN, Brentwood TN, Franklin TN, Nashville TN, Belle Meade TN, Nolensville TN, Spring Hill TN, Gallatin TN, Springfield TN and Mt. Juliet TN).  If you do need to short sell your home or property, or you need a quick sale due to being in foreclosure, you can request short sale and foreclosure help and assistance on my website at Get Short Sale and Foreclosure Help and Assistance from a Middle Tennessee Short Sale and Foreclosure REALTOR and Real Estate Expert.