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If I do a short sale or the bank forecloses, will I owe income tax on the �forgiven� debt? The answer to this question is maybe. In our Underwater Homeowners Assessment and Action Plan we have a very complicated decision matrix (a spider web looking thing) that our Authorized Providers use to determine whether you might have a tax liability. So, to really get your question answered, you need to sign up for the Assessment and Action Plan. In the meantime, here�s the general rundown.

What you need to know

  • Whether youâ��ll owe tax on the debt cancelled in a short sale or foreclosure (it could be a lot)
  • What is the Debt Relief Act and does it apply to you
  • What is a 1099 c and what do you do with it
  • How complicated is it to determine whether youâ��ll have a tax liability
  • How the Underwater Homeowners Assessment and Action Plan can help

Learn the answers to these questions and more here (click the tabs above).

Tax Liability FAQs

  • Q: I did a short sale; will I owe tax on the difference between the sales price and what I owed? or The bank foreclosed; will I owe tax on the difference between fair market value and what I owed? (Click to read the answer)

    A: Both a short sale and a foreclosure result in what�s called a cancellation of debt. Normally, the IRS looks at cancelled debt as taxable income. So if you owe $75,000 more than your house is worth and do a short sale or the bank forecloses, you have $75,000 in cancelled debt. Normally, the IRS will consider that taxable income. For the average Phoenix-area homeowner, that would result in a tax bill of almost $20,000!

    But in 2007, Congress passed a bill called the Debt Relief Act that said, in many cases, homeowners who have a cancellation of debt from a short sale or foreclosure do not owe taxes on that cancelled debt. The Debt Relief Act will end at the end of 2012.

    So whether a short sale or foreclosure is a taxable event for you or not depends on your circumstances, including whether it�s all original purchase debt and whether you lived in the property right up until the time the short sale or foreclosure went through.

  • Q: Whatâ��s a 1099 c? (Click to read the answer)

    A: If the bank takes less for the property than you owe it will send you a 1099 c, which is a cancelation of debt. That form also goes to the IRS.

  • Q: So Iâ��m protected from a tax liability by the Debt Relief Act? (Click to read the answer)

    A: Well, maybe. Again, it really depends on your unique circumstances (and you can only know for certain after you�ve gone through the Underwater Homeowners Assessment and Action Plan with a professional advisor).

    But also remember that the Debt Relief Act is set to expire at the end of 2012. That doesn�t mean you can start the process in November. You have to close escrow or have the foreclosure finalized by December 31, 2012 � and these processes often take many months. In both cases, you have very little control over how fast the process moves. So if you think that a short sale or a foreclosure is the right action for you, now is the time to act (start with the Assessment and Action Plan).

  • Q: Do you still have to report the cancellation of debt if you donâ��t get the 1099-C? (Click to read the answer)

    A: Yes. You�re responsible for correctly filing your taxes whether anyone else files the informational returns that they�re supposed to or not. Plus the fact that if you have a sale the IRS will also get a 1099s which shows the sale proceeds � that will trigger the flag that something happened with an asset. So they don�t just get the 1099-C, so the IRS will know one way or the other.

  • Q: What if I already moved out? Will that affect whether I owe tax? (Click to read the answer)

    A: Yes, it very well could. If you�re not living in the home currently as your primary residence you might not fall under the Debt Relief Act. The Act doesn�t say primary residence, it says main home � which is the home that you�re living in at the time of the event (short sale or trustee sale, e.g.). So what sometimes happens is that homeowners get fed up with debt collectors banging on the door or leaving notes and calling, so they move, because they don�t want to deal with it. But then it doesn�t fall under Debt Relief Act and they�ll likely have a tax consequence. So what to do if you�ve already moved out? Move back in.

Tax Liability Resources

Homeowner 101 Authorized Tax Advisors

  • Homeowner 101 Authorized Tax Advisors
  • Homeowner 101 Authorized Tax Advisors
  • Other Homeowner 101 authorized providers

Tax Liability in the News

  • Tax Liability in the News
  • Tax Liability in the News
  • Get more news

Other Tax Liability Resources

  • Other Tax Liability Resources
  • Other Tax Liability Resources
  • Other Tax Liability Resources

What is a 1099 c? If you get a cancellation of debt after a short sale, what does that mean? Will you owe a big IRS debt? Does the Debt Relief Act protect all homeowners from short sale tax? Learn from a tax and financial expert everything you need to know about debt forgiveness and short sale tax issues. Understand what is a 1099 c and when you might face a short sale tax consequence. Homeowners, get your A.I.R. (Answers, Information, Resources) because what you don't know can hurt you come April 15.

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Could you afford to pay a $20,000 tax bill on the debt cancelled in your short sale or when the bank foreclosed? If not, you really need to get some professional, one-on-one, personalized advice about whether you will have a tax liability and what you can do about it. That�s what you�ll get with the Underwater Homeowners Assessment and Action Plan.

Learn more about the Underwater Homeowners Assessment and Action Plan


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