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Wallstreet Esq.
Wallstreet Esq., Tax Attorney
Category: Tax
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Experience:  10 years experience
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I am a Washington State resident. I got married May 15 2010.

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I am a Washington State resident. I got married May 15 2010. On October 29, 2010 my spouse's former residence was foreclosed. She received a form 1099A showing outstanding principal balance $300k and fair market value of property $200k. Box 5 is marked "yes" indicating borrower (my spouse) was personally liable for repayment of the debt. My understanding is Washington State is a non-recourse state, but that this may have been a recourse loan none the less. The foreclosure was a non-judicial foreclosure. The cost basis of the house is $160k and it qualifies as my spouse's principal residence. She lived in it from 1996 (year purchased) until May 15, 2010. The $300k debt was the result of a 2007 refinance. The house was purchased in 1996 for $160k. My name was never on the deed...I never had any interest in the house.

Is there cancellation of debt income in this situation?
If so, she would have technically been insolvent at the time of the foreclosure. But how does the fact we were married in May and Washington's community property law effect the insolvency? Are my assets at the time of foreclosure included in calculating her insolvency?
Submitted: 3 years ago.
Category: Tax
Expert:  Wallstreet Esq. replied 3 years ago.

Wallstreet Esq. :

Hello I am a licensed attorney here to help you with your question, please review my response and do not hesitate to ask for clarification.

Wallstreet Esq. :

Under Federal law, a 1099 received after foreclosure, of a primary home is not considered income, and she need not worry about declaring it.

Wallstreet Esq. :

The Mortgage Debt Relief Act of 2007 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 provision applies to debt forgiven in calendar years 2007 through 2012. Up to $2 million of forgiven debt is eligible for this exclusion ($1 million if married filing separately).

Wallstreet Esq. :

SEE http://www.irs.gov/individuals/article/0,,id=179414,00.html

Customer :

Pub 4681 page 7 (Qualified Principal Residence Indebtedness) says: Qualified principal residence indebtedness also includes any debt secured by your main home that you used to refinance a mortgage you took out to buy, build, or substantially improve your main home, but only up to the amount of the old mortgage principal just before the refinancing. So in the facts I gave I mentioned that the house, purchased in 1996 for $160k was refinanced in 2007 for $300k. The principal balance right before the refi was probably somewhere close to $160k. So the extra $140k is the part I'm worried about. The way I read it, the $140k ($300k minus $160k) cannot be excluded under the Debt Relief Act. If this is correct can the $140k be excluded because she was technically insolvent at the time of foreclosure? Does the fact we were married in May and Washington's community property law effect the insolvency? Are my assets at the time of foreclosure included in calculating her insolvency? Do we file form 982?

Wallstreet Esq. :

Under IRS regulation the refinanced loan would only qulaify to the extent that the principal balance of the old mortgage, immediately before the refinancing, would have qualified. So you are correct, the $140,000 would be included.

Wallstreet Esq. :

She need not include your separate assets or your share of community assets in your computation, if the debt was solely hers and not community debt.

Customer :

Can the $140k be excluded because of insolvency (form 982)?

Wallstreet Esq. :

Yes, if she was insolvent, and since the debt was not community debt, she can file for insovency if her assets were less than her debts.

Wallstreet Esq. :

As long as you can prove the debt was not incurred while married she is fine.

Customer :

Is form 982 the correct (and only) form to use to claim the exclusion?

Wallstreet Esq. :

Her divorce decree should state that the property was part of her prior marriage.

Customer :

Is there any need to file a separate return this year (I would not like to do that)?

Wallstreet Esq. :

No, you would not have to file a separate form, she however will have to file for insolvency to get rid of the debt for herself.

Wallstreet Esq. :

She can also File IRS Form 982, with your tax return, however you will need to send the IRS a detailed letter with a financial statement showing her insolvency, and why it is not part of your debt.



Wallstreet Esq. :

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Wallstreet Esq., Tax Attorney
Category: Tax
Satisfied Customers: 15685
Experience: 10 years experience
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