The mortgage forgiveness debt relief act has been extended through 2014, allowing those home sellers who sold their home on a short sale to be forgiven the shortfall rather than be required to pay income taxes on the difference. For the duration of 2014, those who have done a short sale have been in limbo as to whether or not the mortgage forgiveness debt relief act would be extended. But with just a few business days remaining in the year, Congress unanimously votes in favor of extending through 2014. It still must be approved by Obama but most insiders believe it will without any problems.
This is a huge tax break for many people across America. When a person is upside down in their property and must get their mortgage company to agree to a short sale in order to sell it, typically after closing, the bank who lost money issues the borrower a 1099C Forgiveness of Debt form. Although the borrower is not required to pay back the loss the bank suffered, they are required to report the amount on their year end tax returns and the IRS treats it like 1099 income, which is subject to ordinary income taxes as well as self employment taxes. Depending on the borrowers tax bracket, the tax liability that is potentially created could be 25% or more of the total amount. For example, if a borrower has a $200,000 loan and sells their home for $100,000, creating a $100,000 loss, if required to pay income tax on that loss amount, it could tally up a $25,000 tax liability or more. That’s an enormous additional bill for someone who is already struggling financially to be able to pay. And owing the IRS money is worse than any other creditor because they can do things no other bill collector can to completely ruin someone’s life.
The mortgage forgiveness debt relief act was originally passed back in 2007 and had been extended up through 2013, until today which pushed it through 2014. There are however, limits, to the forgiveness, and only apply to owner occupants (as opposed to investors). But for those real estate investors who have done short sales for borrowers and purchased those properties, it’s good to know that the short fall, which may have turned into a profit for the investor, is not going to permanently effect the borrower. But if you’re in the middle of a short sale, now is the time to try to close it before the end of the year. If it closes in 2015, the borrower may no longer have the mortgage forgiveness debt relief act to save them from a potentially huge tax liability.
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