The Potection of the Mortgage Debt Relief Act Coming to End
With some recent news about positive signs in the real estate market, some owners may be taking the pressure off themselves. However, the national statistics seem to indicate that about 30% of properties nationwide are in negative equity.
The federal Mortgage Debt Relief Act was passed at the end 2007 to allow homeowners debt relief on their principal residences if foreclosed on or sold in a short sale. California later passed a bill also helping homeowners in this situation. Currently, it is set to expire at the end of 2012, meaning that if the deadline is not extended by Congress, owners after that date will be responsible for debt after a foreclosure or a short sale. Previous to this Act, the amount forgiven in a short sale, or walked away from in a foreclosure, was treated as "phantom income" to the owner, and taxed. California's Debt Forgiveness Relief Act also expires as of January 1, 2013.
So, after December 31, 2012, if a property is approved by the bank in a short sale and sold for
$100,000, but $200,000 was owed on it, the lender is required to report the $100,000 difference to the IRS, a 1099 is issued to the homeowner, and the homeowner is required to pay taxes on that amount. If you are in the 28% tax bracket, this will mean a tax of $28,000. This is a serious consequence for people who probably have few assets.
If you have been living for an extended period of time in a property without making payments and that the bank has seemingly been "ignoring", you should take action with your bank now to bring your situation to a conclusion by December 31, 2012, or get your property listed now and on the market. The bank would still far rather do a short sale than take back another property in foreclosure.
If your home is currently on the market, you should market it aggressively. If your home is under market value, this is the time to get it on the market as it easily can take up to 6 months (depending on a suitable offer from a buyer, and the lender/servicer/investor involved) to close a short sale.
The only alternatives after this point in time to obtain relief are bankruptcy and insolvency, and certain other forms of debt. Before you automatically opt for bankruptcy, please bear in mind that you could try to short sell now with far less impact to you financially, and that there are long term consequences to your credit with bankruptcy and a future inability to obtain a mortgage for an extended period of time--several years.
If you have having problems making your payments, this is the time to take prompt action -- whether or not the MDRA will be extended is unknown at this point. Will it be extended? It's not a friendly atmosphere right now, the mortgage insurance tax protection MDRA was allowed to expire at the end of 2011. See more debt cancellation information at the IRS site.
If you have a tax advisor, you should speak to this person now.
For more information, including a market evaluation of your property and your options to foreclosure, please contact me.