From the IHT:
Former home owners find foreclosure can have unintended tax consequences
Two years ago, William Stout lost his home in Allentown, Pennsylvania, to foreclosure when he could no longer make the payments on his $106,000 mortgage. Wells Fargo offered the two-bedroom house for sale on the courthouse steps. No bidders came forward. So Wells Fargo bought it for $1, county records show.
Despite the setback, Stout was relieved that his debt was wiped clean and he could make a new start. He married and moved in with his wife, Denise.
But on July 9, they received a bill from the U.S. Internal Revenue Service for $34,603 in back taxes. The letter explained that the amount of debt canceled by Wells Fargo upon foreclosure was subject to income taxes, as well as penalties and late fees. The couple had a month to challenge the charges.
The Stouts had originally tried to sell the house themselves and thought the bank takeover extinguished the debt.
“Getting that tax bill, my first thought was that I needed to see my family doctor to help me with my stress, because we had a big mortgage and other debt and then here came the IRS saying we owe this,” Denise Stout recalled.
For those who struggle to pay their bills, who watch their housing payments rise out of reach with their adjustable mortgages, who lose a job or who fall victim to illness, losing one’s home can feel like hitting bottom. But one more financial indignity may await as the fallout from the great housing boom ripples across the United States.
Notices of unpaid taxes, unanticipated and little understood, will probably multiply as more people fall behind on their mortgages, explained Ellen Harnick, senior policy counsel at the Center for Responsible Lending, a nonpartisan research and policy center in Durham, North Carolina.
Foreclosure is one way that beleaguered homeowners can fall into this tax trap. The other is when homeowners are forced to sell their homes for less than the value of the mortgage. If the lender forgives that difference, they are liable for income taxes on that amount.
The “1099 shortfall,” as it is called, stems from an Internal Revenue Service policy that treats forgiven debt as income even if the taxpayer has nothing tangible to show for it.
I hope they don’t bail out anyone, homeowners/debtors, banks, brokers, etc. but if they do, I could see a bill being introduced that limits or creates an exclusion for mortgage 1099 shortfalls. I bet 99% of our congressmen and senators have never heard of this.
This is nothing Allentown and the entire Lehigh Valley is getting crushed with FORECLOSURES!!! Our area is going down as fast as it went up. 100% in 5 years up and going down 150% faster. Our prices will be 1995 levels soon. Commuters who were escaping the NY & NJ bubble paid way too much for houses. 85k homes in 2000 selling for 215k in 2005. That’s hilarious!!! Thank you commuters for making a few locals a nice stack of cash for nothing, lol! Now those of us who waited will be buying a foreclosed home from a NJ & NY native, now that’s living!
There are more problems here than meet the eye.
Not only shouldn’t the Stouts been sent a tax bill for $34K, they should have gotten a check for $34K.
Wells Fargo not only quickly sold the house in question for $106K, the bank they sold it to quickly turned around and sold it for $140K.
If the fiends at Wells Fargo (and I think the word fiends applies here) had handled this properly, or even if the supposed vultures who are out there scouting for RE bargains were doing their job, the Stouts would have received a check for the value of their home above what they owed on it.
Banks aren’t supposed to profit from the resale of REOs. If someone had bid $140K on the courthouse steps, or if Wells Fargo sold the house for $140K the Stouts would be entitled to the profit on the sale of the home (less transaction costs).
Wells Fargo undoubtedly skipped out on that obligation by selling it to the other bank.
Please see immediately see a qualified tax advisor. The “debt relief” that is excluded from being subject to income is whether you are insolvent. Basically, you add your assets and subtract your liabilitiies.
If your negative, that is insolvent, you can exclude the “debt forgiveness” that is subject to income up to the amount thatyou are insolvent.
You may be able to exclude some or even all of your debt forgivness income.