Seller's Tax Liablilty For Forgiven Debt
In the case of a short sale, if the seller is let off the hook for the shorted amount by the lender, how is the forgiven debt viewed by the IRS? Do criteria exist which would allow the former homeowner to shield themselves from this liability? How is the amount taxed, and at what rate?
I don't think it would matter, but just in case... I am asking regarding an FHA loan.
In the CA real estate crash of the early 90s, lender would shock borrowers with $250K 1099s for "debt forgivness". Last I read, this is not happening as much.
OK, so if this is done by a 1099 from the lender, then does the lender have control over the bookkeeping to determine seller's tax liability? If so, is this another item to be negotiated?
Yes, the IRS views forgiven debt as taxable income. Individual tax brackets apply to the individual... but forgiven debt is taxed as ordinary income. Unless....... and the IRS has specific criteria for determining that the income is exempt from tax, the taxpayer is insolvent at the time the debt was forgiven.
I can't recall the Rule, but I think it's 104 A-E.
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OK, so if I am pulling the house out of the bk13 and shorting the lender, then the seller is still paying on other items for bk, so is insolvent, correct?
Does this then mean that there is no tax liability on her part?
Just to be clear to those who are still learning the lingo... You won't be pulling the house out of bankruptcy, the decision to abandon it's interest in the real estate is made by the bankruptcy trustee.
In many cases, the foreclosing mortgagee will still not entertain a short sale if the mortgagor remains in bankruptcy... the bankrupt debtor would be asked to have the bankruptcy dismissed.
The mortgagor would have to insolvent at the exact moment that the debt was forgiven. In theory, they could be insolvent on one day, but hit the lottery the next day. If the debt was forgiven pre-lottery... they would have been insolvent at the time the debt was forgiven. There are other IRS criteria to consider before determining that the forgiven debt exempt from tax.
In most cases, forgiven debt resulting from preforeclosure short sale is exempt from tax.... But the Seller would still receive an IRS 1099 from the mortgage lender. IT's up to the former homeowner to prove insolvency.
I know of a website that offers distressed homeowners TAXCARE.
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2 questions:
First, I'm just trying to determine: When you say "insolvency"... does the fact that she is in bk13 prove "insolvency" or is there some other criteria?
Second: If the mortgage company won't entertain ss for mortgage that the trustee has not released, how does one know that they won't get the trustee to release, and then have the ss declined?
The primary reason for the bk was the past due mortgage, so if it is released, what happens to the past due pmts?
Is there a way to agree to request release IF the ss is agreed to?