Income Tax

The Lowdown on Foreclosure & Income Tax on Short Sales

Depending on who you are, when someone mentions Income Tax or IRS, it instills fear in most taxpayers.  Here is my opinion on the whole forgiveness thing. Please note that all of the info stated below is my personal opinion on this subject. This is not legal or accounting advice. You should talk to your competent legal or account professional before making any decision.

Forgiveness of Debt Tax Liability

You will have Forgiveness of Debt Tax Liability whether you give the house back to the bank or do a short sale. The act has been extended until December 2013 only at the beginning of this year. It’s true!

Before I first started doing short sales, I thought that if the bank foreclosed on your house, you wouldn’t get a tax hit. However, I did think that you would get a tax hit with a short sale. So why do a short sale if you then have to pay taxes on the bank’s loss? Little did I know that you get hit with the tax liability whether the bank forecloses or you do a short sale.

The government sees it as money you received and never paid taxes on. If you lose a home thru foreclosure, it goes back to the bank and the bank then resells it. However, the amount of supposed debt being supposedly “forgiven” will be much bigger. Why? Because the bank will lose a lot more money.


Take the case of a homeowner that Countrywide turned down for a short sale. The agent presented them an offer of $385,000, but they rejected it. The bank thought they could get more money after foreclosing on the house and then re-selling it. However after foreclosing on the house, the bank was only able to re-sell it for $230,000. This left the homeowner with over $210,000 in debt being forgiven. If the bank had taken their original short sale offer, they would have only had $35,000 in debt forgiven. That’s a big difference, right?

Now, here’s the good news. The Mortgage Forgiveness Debt Relief Act of 2007, changed all that. Normally, when a lender decides to forgive all or a portion of a borrower’s debt and accept less, the forgiven amount is considered as income for the borrower and is liable to be taxed.

However, after the signing of the Mortgage Forgiveness Debt Relief Act, amendments have been made to remove such tax liability and allow the borrower and lender to work freely together to find a common solution that is beneficial to both parties. This protection is limited to primary residences — rental properties are ineligible for relief — so consult with a tax advisor. The amount of forgiven mortgage debt allowed to be excluded from income tax is limited to $2 million per year.

Tax Information You Can Use

Here is one good thing that comes out of this whole tax thing. It gives you lots of ammo to hold off the bank from collecting a deficiency judgment from you. If your bank files the 1099 form for the lost income after you do a short sale, then they cannot collect money from you after that. And you can easily get rid of that tax liability by filing a Form 982 with your tax return.

Luckily for the thousands of homeowners in distress, the act was extended until December 2013.

I have attached several of the things I researched to get this info. View them below.

The Mortgage Forgiveness Debt Relief Act and Debt Cancellation

Here’s the link this was copied from:,,id=179414,00.html

If you owe a debt to someone else and they cancel or forgive that debt, the canceled amount may be taxable.

We urge distressed homeowners who have problems with their mortgage to take full advantage of the valuable tax relief available until the end of 2013. We do not believe it will be extended once again. Request an appointment at 1-800-648-0037 Ext. 1024  or send us an email, and you can take advantage of this free government program to save income Tax on short sales.