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Am I liable for increased taxes? I am soon completing a loan modification with $188,000 of forgiven loan balance, bringing my loan from 410,000 to 223,000. My entire 2nd mortgage at $83000 is being forgiven (was not used for home improvements; it was opened during the purchase of the home to get around having a PMI), and $105,000 of my 1st mortgage is being forgiven as well. The new loan for 223,000 is based on what my home just appraised for. I have read that my loan forgiveness would be tax-free up to $2million. Is this true and how can I found out soon before my loan modification is complete.
Country/State/Province of question: USA/CA Already Tried: I saw this link http://taxes.about.com/od/income/qt/canceled_debt.htm but don't fully understand and I'm not sure if any of the info is now obsolete/outdated.
HelloCustomer The Mortgage 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 the relief. This Act applies to mortgage restructuring or foreclosures that occur during the years of 2007 through 2011, and must be related to your primary residence. It does not apply to vacation homes or investment properties. Up to $2 million in forgiven debt is available for this exclusion. You may refer to the following IRS web page for more details. ttp://www.irs.gov/individuals/article/0,,id=179414,00.html If this was helpful please press the Accept button. Positive feedback is also appreciated. Thank youCustomer
Just to be clear, I want to mention one more thing. I have received a "Disclosure" statement from the loan processor that myself and my husband have to sign before the loan mod is complete. It basically states multiple times that we "may have tax consequences" on the debt relief. It also states that they will report the loan forgiveness amount to the major credit bureaus which may have a negative effect on our credit score. Is this most likely just a way for them to cover themselves just in case, even though changes are my loan forgiveness will be tax-free? Is it a negative mark on credit reports? Thanks for your help, it's greatly needed and appreciated!
Hello againCustomer The disclosure statement for this type of transaction is standard. The lender has no way of knowing whether or not you qualify to have the forgiven debt excluded from your taxable income. That is a totally separate issue between you and the IRS. Even though the IRS is allowing this temporary measure for taxpayers to exclude this forgiven debt as income, lenders are still required by law to inform you that the forgiven debt may be taxable. They are also required to send you a 1099-C form to report the amount of the forgiven debt, and they also have the legal right to report this to the credit bureaus. As long as this home is your primary home, you will qualify to exclude the debt from your taxable income. However, there will still be negative effects of this for you in the respect that it will be reported to the credit bureaus. The fact that the IRS is allowing you to escape tax on the forgiven debt has nothing to do with the fact that the lender has still lost money on this transaction, and they have the right to report this to the credit bureaus. So that information will remain on your credit report for 7 years. If this was helpful please press the Accept button. Thank youCustomer
That was a huge help, thank you so very much! Sincerely, Andrea
Thank you Andrea, and let me know if you have more questions. Otherwise, accepting my answer will give me credit for helping with this question.
Accountant
25+ years tax consulting. Specializing in returns for US citizens living abroad