After the housing crash in the early 2000’s, thousands of people lost their homes to foreclosure or found themselves upside down on their loans, unable to sell their home to anything close to its original worth.
The economy and market are changing, but homeowners still occasionally find themselves in a tight spot with their mortgage.
And sometimes, you can possibly restructure or renegotiate the loan terms. This is just to help keep you out of hot water with a mortgage company. Sometimes, you can persuade Mortgage Lenders. This is to forgive a portion of your mortgage. This is particularly in the case of a short sale, where the house is not worth enough anymore. It is meant for covering the original amount owed to the bank.
This sounds great, right? You’re free from a burdensome mortgage, and what you owed is forgiven. Win-win, right?
Like with most personal debt solutions, mortgage debt relief is not without its downsides. And like with any debt relief program, it’s important to have all the facts before you take advantage of them.
So let’s unpack a few need-to-know facts about mortgage debt relief. Before we do, though, it’s important to know one key phrase:
When you think “income”, you probably think your paycheck or dividends from investments.
But according to the IRS, any time a lender cancels or forgives a debt, that counts as income. Yes, even though no one is actually increasing the bottom line in your bank account. Even if you still have to pay to settle the debt. Anything forgiven = income.
And what does the government do with income? They tax it.
So in some cases, a mortgage company or bank may forgive all or part of your mortgage. You will then owe taxes on the forgiven amount. Good News! Thanks to some legislation back that was drafted in the early 2000’s. There are certain kinds of forgiven personal debt. Those are the exemptions from income tax.
In general, any canceled debt is going to be considered income, be it medical debt, credit card debt, or an auto loan. This puts the consumer at a significant disadvantage. If you are facing foreclosure or a short sale on your home, chances are that you have taken some kind of financial hit preventing you from making payments.
If that is the case, you can hardly be expected to pay a large tax bill at the end of the year. So it’s important to know whether your mortgage debt relief is taxable or not.
In 2007, Congress passed The Mortgage Forgiveness Debt Relief Act, which exempted certain types of mortgage-related debt from income tax law.
The largest thing to know is whether your debt is considered “Acquisition Debt”.
Acquisition debt refers to debt used to build, buy, or make significant additions or improvements to an existing home.
For a mortgage to qualify, it also must have been on the main home, rather than an investment property or vacation home.
The law applies for canceled debts up to $2 million, so as long as your property falls under those three criteria, you may not have to worry about owing money to the IRS when it comes to tax time.
If your mortgage is not acquisition debt, but instead Home equity debt, it likely doesn’t qualify for tax exclusion under the 2007 law.
This can get complicated if your debt falls into multiple categories. For instance, if part of your loan was refinanced, whatever amount is part of your original loan qualifies for exemption. But if you took out a home equity line of credit that was then forgiven, it would count as income.
In essence, anything that is not part of the original loan on your main home does not qualify for tax exclusion and would have to be claimed as income on your tax return.
It’s important to note that this law expired in January of 2017, and it’s still not clear whether Congress will renew it. They always have in the past, but different factors are currently in play on Capitol Hill at the moment.
This doesn’t necessarily mean that your canceled debt is taxable again. As long as your debt was forgiven in whole or part prior to December 31, 2016, it falls under the jurisdiction of the Mortgage Forgiveness Debt Relief Act.
If your debt is forgiven after, you may be in the murkier water until it becomes clear whether Congress will renew the law.
Knowing the law when it comes to your personal debt is critical. At Debt Academy, we can help with tailored debt solutions for your situation.
Drop us a line today so we can get started on solutions for you.