According to IRS regulations, when debt is canceled or
forgiven by a lender, the amount that has been canceled is considered income
for the debtor during tax time and must be reported as income. In light of the recent housing and
foreclosure crisis, this regulation would be especially frightening for the
thousands of Americans who are going through loan restructuring and
modification processes, or having their mortgages canceled due to
foreclosure.
However, when the economy took a turn for the worst, and
right before the housing bubble burst, Congress passed the Mortgage ForgivenessDebt Relief Act of 2007, which allowed homeowners who were already having
financial trouble to avoid having to pay taxes on their forgiven or foreclosed
mortgages. In fact, according to that
Act, if part or all of your mortgage debt is forgiven in any tax year from 2007
to 2012, you might be able to exclude a substantial amount of that forgiven
debt from your taxable income when tax time rolls around.
The debt that qualifies for this must have been incurred for
your principle place of residence (not a vacation home), and can include debt
that has been canceled through foreclosure or debt from mortgages that were
reduced through restructuring or modifying the loan.
From the IRS website, here are a few additional facts about
Mortgage Debt Forgiveness.
1. The limit is $1 million for a married person
filing a separate return.
2. To qualify, the debt must have been used to
buy, build or substantially improve your principal residence and be secured by
that residence.
3. Refinanced debt proceeds used for the purpose
of substantially improving your principal residence also qualify for the
exclusion.
4. Proceeds of refinanced debt used for other
purposes – for example, to pay off credit card debt – do not qualify for the
exclusion.
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