FIRM COMMENTARY:  As we begin to see a bit more principal reduction, Homeowners lucky enough to have their  mortgage debt CANCELLED may be forced to pay ORDINARY INCOME TAX on that amount beginning in January 1, 2013.  For example, assume Bank of America FORGIVES $100,000.00 of your mortgage in January 2013, they will send you a 1099 for that amount.  If you are in the 35% Federal tax and 9% State tax bracket, then you may have to pay $44,000.00 in additional income taxes when you file your 2013 returns. Exceptions exist such as in bankruptcy, but the current tax break provided under the Mortgage Forgiveness Debt Relief Act EXPIRES on DECEMBER 31, 2012. Contact the FIRM for a tailored analysis of your situation.

 

http://www.salon.com/2012/08/01/underwater_homeowners_face_a_tax_time_bomb/

By David Dayen

On Dec. 31, underwater homeowners could be hit with a huge tax bill, unless
Congress moves to help them -By David Dayen

The letter from Bank of America Home Loans got right to the point. We are
pleased to inform you that we have approved your Home Equity Account for
participation in a principal forgiveness program offered as a result of the
Department of Justice and State Attorneys General global settlement with major
mortgage servicers. In the letter, which I obtained from an anti-foreclosure
activist, Bank of America offered the homeowner full forgiveness of their entire
home equity loan balance of over $177,000. But then Paragraph 5 came with an
ominous warning: 
 
Please be aware that we are required to report the amount of
your cancelled principal debt to the Internal Revenue Service.

Under current law, a principal reduction like this would be exempted from tax
liability. However, that law, the Mortgage Forgiveness Debt Relief Act, expires
at the end of the year, and after that, any mortgage debt forgiveness provided
to a borrower will count as gross income for tax purposes, potentially costing
millions of families several billion dollars. In the above case, the borrower
would be required to pay taxes on the entire $177,000 amount forgiven by the
bank, as if it were earned income. And that’s money that struggling homeowners
simply don’t have.

They wouldn‘t be able to handle it, said Peggy Mears of the Alliance of
Californians for Community Empowerment, a community organizing group in
California that has worked extensively on foreclosure issues. If they could
handle it, they wouldnt be in arrears with their house notes. They dont have
that kind of money.

The tax issue could significantly disrupt a still-fragile housing market and rob
homeowners of the tools to pull themselves out of mortgage debt. It also
represents a final indignity for homeowners who have been abused by the
fraudulent mortgage practices of leading banks for years. Just when they think
they get relief from their troubles, they get hit with a massive tax bill they
cannot pay. This has the effect of pulling people up with one hand, and hitting
them in the face and knocking them over the cliff with the other, said Sen.
Jeff Merkley, D-Ore., who supports extending the law.

The issue dates back to 2007, when the housing bubble first started to deflate.
Rep. Brad Miller, D-N.C., was tasked by the then-chairman of the House Financial
Services Committee, Barney Frank , D-Mass., to find ways to help borrowers who
would get caught up in the ensuing carnage. Millers search led him to Section
181 of the tax code. I heard about the fact that interest reductions are not
treated as income and principal reductions are, which creates a huge problem for
modifying mortgages and solving the foreclosure crisis, Miller said.

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