California Mortgage Forgiveness (Short Sales) Debt Relief

Honestly, I am a little surprised more people aren’t talking about this. Short sales in California have been steady for a good part of the last couple years but the one item that seems to stop homeowners from doing anything is the tax consequences on forgiven debt. Under the Mortgage Forgiveness Debt Relief Act of 2007 (H.R. 3648) taxpayers will not be taxed upon the cancellation of debt when they sell their primary residence through what we know as a short sale.

Californian’s have still been required to pay the taxes on short sales. The idea is that your gain (the amount of the loss the bank takes) is the banks loss. In recent years homeowners in California would receive a 1099 which can be taxed as ordinary income. This could be a fairly significant amount of money.

Now California seems to be following the same Federal guidelines under the existing Mortgage Forgiveness Debt Relief Act of 2007 (H.R. 3648). I think this is rather large and I’m surprised more news hasn’t been shed on the new California law. Please refer to all the guidelines for the California Mortgage Forgiveness Debt Relief and BE SURE TO SPEAK WITH YOUR TAX PREPARER OR CPA. If your considering a short sale and your home is in California make sure you know all of the implications. You may not fall within the guidelines and it’s important to note that this is only applicable to your primary residence.

9 thoughts on “California Mortgage Forgiveness (Short Sales) Debt Relief”

  1. I think it should be a locally-based decision. With most distressed properties (reo’s/short sales) being disproportionately in a few areas of the country, the burden of loss tax revenue should be something that the state government addresses. Best of luck.

  2. If the bank cancels or forgives a mortgage the borrower should pay taxes on the amount forgiven. For example, let’s say the amount in question was $200,000. The bank will write off this amount. Therefore there are no taxes paid on this money.
    An important point about the Mortgage Debt Forgiveness Act is that there are no taxes on a purchase mortgage on a primary residence. However, if you refinance and spend the money on other things except the house, you have to pay taxes on this portion of the money. If you take a Home Equity Line of Credit to pay off all your credit cards, you have to pay taxes.
    The thinking by the IRS is to prevent people from abusing the system. It wouldn’t look good politically if someone takes a loan against the house, then takes a 6 month trip around the world, and does a shortsale the following year and have the loan forgiven. And no taxes.

  3. Flower Mound Realtor

    Great information. Not being in California I wasn’t aware of the laws. Thanks.

  4. Californians are already heavily taxed in all areas. So having to pay taxes on any savings made from a short sale, would put a damper on their appeal. It would seem like going to a store for a sale, but still having to pay full price at the register.

  5. Kate at Value Slim

    I think this is a great peice of advise. If a homeowner needs to short sale their house, why should they pay taxes?? Obviously they don’t have the money. I am sure there are strict guidelines so the right people benefit from this statute. This is great for those out there in need of help.

  6. Another thing I’ve really noticed is that often for many people, poor credit is the response to circumstances beyond their control. As an example they may are already saddled with illness so they really have excessive bills going to collections. It may be due to a job loss or even the inability to work. Sometimes divorce process can really send the funds in the undesired direction. Thanks sharing your ideas on this blog.

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