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Tax Blawg

Tax Talk for Tax Pros

Introduction

Welcome to TaxBlawg, a resource for news and analysis of current legal issues facing tax practitioners. Although blawg.com identifies nearly 1,400 active “blawgs,” including 20+ blawgs related to taxation and estate planning, the needs of tax professionals have received surprisingly little attention. The Wall Street Journal's Tax Blog gives “tips and advice for filers,” and Paul Caron’s legendary TaxProf Blog is an excellent clearinghouse for academic and policy-oriented news. Yet, tax practitioners still lack a dedicated resource to call their own. For those intrepid souls, we offer TaxBlawg, a forum of tax talk for tax pros.

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Under Water on Your Home Mortgage? Talk to Your Tax Advisor Before You Take Action!

Recently, the IRS issued "Tax Tip 2012-39" regarding important issues concerning mortgage debt forgiveness.  While anyone capable of reading this Blawg is capable of pulling that up from the IRS website and reading it, no action should be undertaken without making sure your tax professional has covered the positives and negatives of doing so.

Right now, a lot of people are "under water" on their home mortgage, and faced with possible foreclosure, short sale, or other transactions in which their mortgage debt is partly or entirely "forgiven" during this tax year.  There are several things to be wary of.  For starters, any time a debt is forgiven, it is presumed to result in taxable income.  However, there is a statute known as the Mortgage Forgiveness Debt Relief Act of 2007 that may permit the exclusion of up to $2,000,000 of debt forgiven on a personal residence.  (For a married person filing separately, the limit is $1,000,000).  This can take place through a mortgage restructuring as well as a debt forgiven in a foreclosure or short sale.  The only “qualified debt” involves monies used to buy, build or substantially improve the principal residence and be secured by that residence.  This includes refinancing for the purpose of substantially improving the principal residence.  A taxpayer seeking to qualify for this relief must fill out and file a Form 982 with the Federal Income Tax Return for the year in question.

Second, not all debt qualifies.  Proceeds of financing used for other purposes, such as paying off credit card debt, will not qualify.  Debt forgiven on second homes, rental property, business property, credit cards or car loans does not qualify for this relief provision.  However, some other tax relief provision – such as being insolvent both before and after the debt forgiveness – may be applicable, and these circumstances are covered on Form 982.

Next, if a debt is reduced or eliminated, a taxpayer is supposed to receive a year end statement, Form 1099-C, Cancellation of Debt, from the lender.  This form is supposed to show the amount of debt forgiven and the fair market value of the property foreclosed.  If you receive this form, examine it closely, because it is filed with the Internal Revenue Service and that agency will assume its contents are correct.  If it containsany incorrect information, notify the lender in writing immediately – pay especially close attention to the amount of debt forgiven in Box 2, as well as the value listed for the property in Box 7.  That notification should be in writing and this writer recommends that you send it certified mail with return receipt requested.

Finally, do not “attempt all this in your own home.”  Better to have a tax professional guide you through the process than to take the chance of a costly mistake.

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    George Connelly is recognized as one of the leading federal tax litigators in the United States.  His practice focuses on IRS audit, collection and criminal matters including civil and criminal tax litigation matters, for clients ...