How A Foreclosure Can Impact Your Taxes

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The Bankruptcy Law Network has posted an article that discusses how a foreclosure sale can impact the way you file your taxes with the IRS. The best option for homeowners facing the prospect of foreclosure may be to file bankruptcy, even if the only debt they have is from a mortgage. Bankruptcy “shields” the homeowner from the taxes that follow a debt cancellation. The debt forgiveness offered by bankruptcy is an exception that doesn’t treat canceled debt as income.

Here’s how the tax law works: if the mortgage balance as of the foreclosure is $500,000 and the value of the house is only $350,000, the foreclosure results in $150,000 of debt that the (former) home owner no longer owes. A 1099 is issued and tax law treats the $150,000 just as if the debtor had gotten a check for $150,000. The borrower’s taxable income is increased by $150,000.

A tax law was enacted a few years ago to keep homeowners’ foreclosure sale from counting as income. If the debt was original and purchase money loan, no phantom income was applied to the foreclosure. But this doesn’t apply to refinancing or investment properties.

Insolvency is one way to not have to include a canceled debt as income. Bankruptcy is another option. However, according to the IRS, the debt that is forgiven through bankruptcy doesn’t cancel taxable income. It can come as a surprise to homeowners who are already upset over losing a home when they owe taxes for money, that they never even saw, from a foreclosure sale.

If you would like more information on foreclosures, please check out our articles The Three Stages Of Foreclosure In Alabama and Wrongful Foreclosures In Alabama.

If you have further questions or concerns, feel free to contact us through our website or by calling 205-879-2447. You may also obtain a copy of our free book on stopping wrongful foreclosures and the problems of hidden fees by emailing us. We have also started handling bankruptcy cases.

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