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IRS Debt Relief on Short-Sale or Short-Refi

Updated on January 28, 2010

Short Sale? File IRS Form 982

How do I claim a short sale or short-refi on my taxes?


The tax code has been temporarily amended because of the mortgage crisis that has hit our entire country.

This break comes in the form of "The Mortgage Forgiveness Debt Relief Act of 2007", whereby in certain circumstances, a homeowner does not have to pay federal income tax on debt forgiven on a loan secured by a qualified principal residence via a short sale, foreclosure, deed in lieu, loan workout or short refinance. ( A short refinance is defined as "where the loan amount was reduced and forgiven in order for the homeowner to keep the property".)

This is great news for many a homeowner, because in prior years, any remaining balance was considered income for which you would owe taxes.

Under this new law, there is no federal income tax due on debt forgiven on a loan that is secured by the seller's principal residence, provided that the loan was made to acquire, construct, or substantially improve the principal residence. Also, a short-refinance of that type of loan also qualifies for the exemption.

However, if you just pulled money out of your house to pay for a vacation and got debt relief on that loan, you would be subject to income tax.

The exemption applies to any portion of loan debt forgiven beginning January 1, 2007 through December 31, 2009.

Therefore, it doesn't matter when the loan was made; what matters is when a portion of the debt is forgiven.

IRS Income Taxes on debt relief due to foreclosure, is NOT automatic though...

You have to file IRS Form 982 "Reduction of Tax Attributes Due to Discharge of Indebtedness," and the form has to be attached to the federal tax return.

Many people entitled to this tax break aren't filing the form.



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