A short sale is when your lender accepts less than what is owed on your mortgage and forgives the debt. On December 22, 2007 President Bush signed into law a new measure to provide tax relief for homeowners facing foreclosure or bankruptcy. The bill eliminates federal taxes due from homeowners who have had mortgage debt forgiven as part of a foreclosure or the renegotiation of a loan. Currently such debt forgiveness has been treated as taxable income.
What this means is if you owe $200,000 on your current mortgage and your lender agrees to allow you to sell the home for $150,000, up until this new law was passed you would get a 1099 for the $50,000 as taxable income and be responsible to pay the income taxes on that amount. The government looked at the $50,000 as income. Now whatever your lender agrees to take short of your payoff is truly forgiven.
The bill arose in response to the current mortgage crisis and is anticipated to reduce taxes on strapped homeowners by $650 million. “When you’re worried about making your payments, higher taxes are the last thing you need to worry about,