The clock is winding down on tax breaks available to homeowners looking to escape mountainous mortgage debt through a foreclosure or short sale.
The Mortgage Debt Relief Act of 2007 will expire at the end of the year, if Congress does not take action to extend it. Without that relief, homeowners who back out of their mortgages with a short sale or foreclosure have to pay taxes on the amount that is forgiven.
The Internal Revenue Service will levying taxes on the property as if the homeowners actually received the money. The tax relief is also available when debt (up to $2 million) is reduced as a result of a mortgage being restructured. For more on the nitty-gritty details, check out this news release from the IRS.
UPDATE: A policy analyst for the Maryland General Assembly reports that the legislature passed legislation, signed by the governor, that would continue to provide the tax relief to state residents through their state income tax returns for an additional year, if Congress fails to extend the federal tax break. Del. Craig Zucker, a Montgomery County Democrat, was the legislation's primary sponsor.
A recent survey, released by YouWalkAway.com, found that the pending expiration of the federal Mortgage Debt Relief Act has prompted more homeowners to default on their mortgages. The company -- which works with homeowners planning a "strategic default" -- surveyed its clients.
Thirty-four percent of those surveyed said the expiration of the tax relief act contributed to their decision to default on their mortgage sooner than later, according to the company.
Jon Maddux, CEO of YouWalkAway.com, said if the debt relief act is not extended, the housing recovery will slow and the effects will be felt throughout the economy.
“If this act does not pass, we as a country will feel the effects years down the road,” Maddux said in a statement. “Most strategic short sales will stop immediately, because of the homeowner’s fear of a getting hit with a huge tax bill. If the act is not extended there will be massive tax consequences owed come April 2014.”
Maddux predicted a sharp increase in bankruptcy filings as a result.
HouseLogic gives this example of tax consequences:
“Let’s say you owe $150,000 on your mortgage, but your Realtor finds a buyer willing to pay $120,000. The bank approves the short sale and forgives the $30,000 difference. If you don’t complete the sale by Dec. 31, 2012, as of Jan. 1, 2013, that $30,000 in forgiven mortgage debt will be considered taxable income by the IRS.”