IRS Shows Foreclosed Homeowners How To Dodge Income Tax On "Cancellation Of Debt" Income

Possibly in response to the recent letter sent to them by three U.S senators (see Tax relief urged for families who lose homes- Marketwatch, 9-14-07), the Internal Revenue Service issued an Information Release last week (IR-2007-159, Sept. 17, 2007) announcing a new section of their website intended to get the word out that under current Federal income tax law, "special relief provisions can often reduce or eliminate the tax bite for financially strapped borrowers who lose their homes." According to the IRS:

• Under the tax law, if the debt wiped out through foreclosure exceeds the value of the property, the difference is normally taxable income. But a special rule allows insolvent borrowers to offset that income to the extent their liabilities exceed their assets.

Of particular note in the IRS Information Release is this caution to foreclosed homeowners:

• The IRS urges borrowers to check the Form 1099-C carefully. They should notify the lender immediately if any of the information shown on their form is incorrect. Borrowers should pay particular attention to the amount of debt forgiven (Box 2) and the value listed for their home (Box 7).

(Editorial Note: I think the secret is coming out that foreclosing mortgage lenders are really screwing up badly in preparing the Form 1099-C notices that they are issuing to foreclosed homeowners.)

For more on the IRS Information Release, see IR-2007-159 - Special Web Section Unveiled for Homeowners Who Lose Homes; Foreclosure Tax Relief Available to Many.

To go to the new IRS section on their website, go to Questions and Answers on Home Foreclosure and Debt Cancellation.

For related articles on this new information, see:

• IRS Says Foreclosures, Short Sales Can Be Less Taxing (Realty Times),
• Your Money: Beware tax bite after losing your home (USA Today) - which, buried near the end of the article, suggests that foreclosed homeowners should consider challenging the lender's fair market value of the home which, when mortgage debt is forgiven, will be reported to them on Form 1099-C. It urges foreclosed homeowners to contact the lender immediately if not in agreement with the information on the 1099-C, saying, "If the lender was in a hurry to unload your home, it might have sold it for less than the fair market value."
• IRS Publication 4681: Canceled Debts, Foreclosures, Reposessions and Abandonments.

Go here for other posts on dodging the income tax on a short sale / foreclosure sale (including handy links to IRS forms and publications related to this subject). short sale income tax