Is a Foreclosure on Your Home Taxable? (Part 1)
Is a Foreclosure on Your Home Taxable?
The Mortgage Forgiveness Debt Relief Act of 2007 generally allows taxpayers to exclude income from the discharge of debt on their principal residence. Debt reduced through mortgage restructuring, as well as mortgage debt forgiven in connection with a foreclosure, qualifies for this relief.
Cancelation of Debt Income in General
If you borrow money from a commercial lender and the lender later cancels or forgives the debt, you may have to include the cancelled amount in income for tax purposes, depending on the circumstances. When you borrowed the money you were not required to include the loan proceeds in income because you had an obligation to repay the lender. When that obligation is subsequently forgiven, the amount you received as loan proceeds is reportable as income because you no longer have an obligation to repay the lender. The lender is usually required to report the amount of the canceled debt to you and the IRS on a Form 1099-C, Cancellation of Debt. If you do not agree with the information on the 1099-C, contact the lender. The lender should issue a corrected form if the information is determined to be incorrect. Retain all records related to the purchase of your home and all related debt.
Cancellation of debt income is not always taxable. There are some exceptions. The most common situations when cancellation of debt income is not taxable involve:
Bankruptcy: Debts discharged through bankruptcy are not considered taxable income.
Insolvency: If you are insolvent when the debt is cancelled, some or all of the cancelled debt may not be taxable. You are insolvent when your total debts are more than the fair market value of your total assets.
Certain farm debts: If you incurred the debt directly in operation of a farm, more than half your income from the prior three years was from farming, and the loan was owed to a person or agency regularly engaged in lending, your cancelled debt is generally not considered taxable income.
Continued next week
If you have a specific question regarding this article, as a public service, and at no cost to you, I invite you to call me with your question. Since I am in the middle of tax season, I will have to limit our conversation. I will be happy to schedule an appointment for you if you would like further consultation regarding this, or any other matter. Thank you for your interest in reading my tax column.
This column is offered as a public service with the understanding that each person's tax situation is different; that you should consult your CPA before taking any action based upon comments made in this article. Call me and I will be happy to explain my “CPA Quality Tax Preparation at H&R Block Rates” and how you can decrease your tax preparation fees, or go to www.danghazel.com for more information. I can be reached at 540-825-2771.