The tax break that exempts financially troubled homeowners from paying large amount of taxes to the government is nearing expiration.
The Mortgage Forgiveness Debt Relief Act, which became law on December 20, 2007, has to be extended by Congress before the year ends so that homeowners will not have to pay income taxes on the part of their mortgage loan that is taken off in a foreclosure, principal reduction or short sale.
Without the tax break, if a borrower owes $150,000 on his home which was sold for $100,000 in a foreclosure sale, that borrower could be taxed on the $50,000 difference. For an individual who belongs to the 25% income tax bracket, that means he would be paying $12,500 in taxes. The same taxes apply to forgiven portions of debt in principal reduction and short sales.
If the tax break ends, many mortgage borrowers could be seriously affected. About 50,000 homeowners face foreclosure every month. In the mean time, the volume of short sales has tripled in the last three years. The rate of short sales now is around 500,000 annually. And, based on the $25 billion settlement deal over foreclosure misconducts of big banks, approximately one million homeowners may have lowered their mortgage debt by means of principal reductions within the next few years.
According to a policy analyst, the cost of tax break could make it a matter of dispute. The finance committee said the cost of extending the exemption for a year is $1.3 billion.
If the exemption is left to expire, not all homeowners who received mortgage debt forgiveness will take a hit on tax. Debt that is discharged in a bankruptcy does not entail tax payments. Those who had more liabilities than assets when the debt was reduced would not be required to pay the tax.
- If you are struggling to make your mortgage payments, do not delay asking for help. Discuss your options with a Real Estate Attorney as early as you can. The longer you wait to find a solution, the fewer options you will have.