If the bank approves the shortsale, they amount decided upon becomes the ‘pay-off’. Once the shortsale is closed, the debt is paid…
However, there is still the matter of the IRS. The lender can issue a 1099 for the balance and the IRS considers the ‘forgiven’ amount as taxable income.
You can request that a 1099 not be issued because of financial hardship, but technically, the taxes are still due to the IRS under tha tax code. Someone here mentioned that you can ask the IRS to waive the debt but I’m not sure where I read that (it was here but not sure of which thread)…
Wow, I did not know this. I am in the midst of completing my first shortsale. homeowners owed 180k, but bank accepted my offer of 122k. So, from what I understand, the homeowners will pay taxes on that difference of nearly 60 k?
Does the lender always follow through and issue the 1099? Is there anything else that I can do for the homeowner?
If the home goes to auction the bank will go after the deficency because the loan was not paid in full. If they work with you they may have to pay taxes on the difference. Have them check with their accountant. I would rather pay the tax rather than pay the bank the full amount of the deficency.
There is also the thinking that if the bank accepts a short sale they can’t go after the deficancy because they agreed to take less than what was owed as full payment.
If you do a short sale, you should ensure that the lender will not go after the deficiency. Get it in writing.
Once they do this, however, they will almost certainly issue a 1099 for the deficiency.
Having said that, there’s an easy loophole to get out of having to claim this amount as income in the year in which you get the 1099.
As JDS said, use the Form 982 and claim insolvency. This should reduce the taxable amount of the forgiven debt to zero. It should not be difficult to claim insolvency if the lender is forgiving a debt, as the borrower’s financial picture is likely very bleak.
A deficiency can only be proposed if it was a judicial foreclosure and not a trustee’s sale. In California, they will 1099 you because California is a trust deed state. Now I was talking to someone that states that you can bypass this and not pay taxes because a short sale/foreclosure is an involuntary process and they can’t tax you on debt relief of an involuntary process. I would like to see if that is true, but most accountants I talk to you are not familar with the rules of a 1099 for debt relief.
Doesn’t the 1099 fall under their capital gains allowance? If they lived there over 2 years and it’s under $250k single or $500k married then there are no taxes on it. I’ve read that before. I’m not 100% sure though, so check with an accountant.