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Lane
Lane, JD, CFP, MBA, CRPS
Category: Tax
Satisfied Customers: 4061
Experience:  Juris Doctorate, CFP and MBA, Providing Financial & Tax advice since 1986
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Second mortgage forgiveness on primary residence, second home

Resolved Question:

Second mortgage forgiveness on primary residence, second home or investment property.

This is a technical question and I prefer that a tax attorney answers it.

I had a second mortgage forgiven on the primary residence in 2010.

I may not qualify under for the tax exemption based on qualified principal residence indebtedness because the amount was borrowed through refinancing after the 2 family house had been rehabbed, and I cannot prove that the money received was spent on the improvement of the house.

So I may need to qualify under the insolvency exemption. If we are married filing jointly then can we include the assets and liabilities of both spouses to qualify?

What exactly do I need to provide the IRS to make sure that they don't come back after few years and nab me for one reason or the other?

Are the loan forgiveness of primary residence, second home and investment properties treated the same under the insolvency clause?

I am not contemplating bankruptcy at this time.

I am asking all of the questions up front to understand the scope of the insolvency exception in detail. If you think that I am asking too many questions at once then let me know I will break up my questions. :)
Submitted: 1 year ago.
Category: Tax
Expert:  Lane replied 1 year ago.

Lane :

Hi,

Lane :

First, it's not what the money was spent on, that determines the primary residence piece (of which there are two parts (1) ownership and (2) use) It is whether or not the loan was secured by the primary residence

Lane :

Put it this way, Is the house the collateral for the loan?

Lane :

Regarding your questions about investment property and primary residence being treated the same" ... No, they are not

Lane :

If the property securing the loan IS you primary residence (meaning that you own the property (ownership) and that you lived in the property for any 24 months of the last 5 years (use) then you do not have to be insolvent, you'll simply complete a couple of lines on the 982 form to saying that the home securing the loan(s) IS indeed your primary residence and you're done ... But if the property securing the loan is an investment property, then you must show and document insolvency

Lane :

For debt forgiveness on a loan secured by any other asset besides you primary residence, you WILL have to show insolvency

Lane :

I still don't see you coming into the chat session, so I'll move us to the "Q&A" mode. … Maybe that will help … (We can still continue a dialogue there, just not in real-time chat, as we can here)


Please let me know if you have any questions as all ...


Lane

Lane :

Just to recap, you concern about this being primary mortgage indebtedness where you said ... " I had a second mortgage forgiven on the primary residence in 2010. I may not qualify under for the tax exemption based on qualified principal residence indebtedness because the amount was borrowed through refinancing after the 2 family house had been rehabbed, and I cannot prove that the money received was spent on the improvement of the house." ... is not a problem. Again, what this whole thing turns on is whether the debt is SECURED by the residence that you owned and lived in for 2 out of the last five years (how the money was spent is irrelevant ... Its what is the mortgage ON said differently, what property was pledged to get the mortgage

Lane :

Let me know if you have any furthr questions at all

Lane :

Lane

Customer: replied 1 year ago.
The documentation I have read on the IRS site makes it confusing. If your read the examples given by the IRS, they lead me to believe that the money had to be borrowed to either purchase the property or to improve it.

The examples give a scenario that the money was used for other than the repair purposes and the IRS disqualified it.

Please provide IRS or other legal references to back up what you are suggesting.

It is a heft amount and I don't want to screw it up.


Customer: replied 1 year ago.
I am an old client. My JA interface does not allow the chat mode for some reason.
Expert:  Lane replied 1 year ago.
Here's the law itself: (Section E is the one that applies)

(a) Exclusion from gross income.--(1) In general.--Gross income does not include any amount which (but for this subsection) would be includible in gross income by reason of the discharge (in whole or in part) of indebtedness of the taxpayer if--(A) the discharge occurs in a title 11 case,(B) the discharge occurs when the taxpayer is insolvent,(C) the indebtedness discharged is qualified farm indebtedness,(D) in the case of a taxpayer other than a C corporation, the indebtedness discharged is qualified real property business indebtedness, or(E) the indebtedness discharged is qualified principal residence indebtedness which is discharged before January 1, 2014.

26 U.S.C.A. § 108 (West)


Qualified Principal Residence indebtedness means DEBT ON THAT PROPERTY.

What you end up going out and doing with the dollars is irrelevant. AND there's no way to prove ... all they can do is look at the loan documents and see that it was this house that secured the loan

Lane
Expert:  Lane replied 1 year ago.

 

 

Also, you should know these other two factors that MAY be important (IFyou secured the indebtedness with something other than your primary residence):

 

 

 

 

(C) Principal residence exclusion takes precedence over insolvency exclusion unless elected otherwise.

 

--Paragraph (1)(B) shall not apply to a discharge to which paragraph (1)(E) applies unless the taxpayer elects to apply paragraph (1)(B) in lieu of paragraph (1)(E).

 

 

 

 

(3) Insolvency exclusion limited to amount of insolvency.

 

--In the case of a discharge to which paragraph (1)(B) applies, the amount excluded under paragraph (1)(B) shall not exceed the amount by which the taxpayer is insolvent.

 

26 U.S.C.A. § 108 (West)

 

 

 

 

 

 

And remember tat the Law itself always take precedence over what someone on the front lines at IRS may tell you.

 

However, if you have any trouble at all you can use this, from the IRS web site regarding the Act: http://www.irs.gov/Individuals/The-Mortgage-Forgiveness-Debt-Relief-Act-and-Debt-Cancellation-

 

 

Here's what they say (in the first statement on the page):

 

 

 

 

If you owe a debt to someone else and they cancel or forgive that debt, the canceled amount may be taxable.

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.

 

 

 

 

Hope this helps

 

Lane

 

 

 

Lane, JD, CFP, MBA, CRPS
Category: Tax
Satisfied Customers: 4061
Experience: Juris Doctorate, CFP and MBA, Providing Financial & Tax advice since 1986
Lane and 6 other Tax Specialists are ready to help you
Customer: replied 1 year ago.
Good thanks.
Expert:  Lane replied 1 year ago.

Thanks for the rating!

Lane

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