This Act protects consumers who have foreclosed or sold their homes in a short sale from the added burden of a hefty tax bill on the forgiven debt. Normally anyone whose debt is forgiven is responsible for paying taxes on the amount forgiven (known as “phantom income”).
Under the Act, a taxpayer may exclude from income $2 million ($1 million if married and filing separately) in principal mortgage indebtedness forgiveness on a qualified principal residence during 2007, 2008, and 2009. (Note: Thanks to the Emergency Economic Stabilization Act of 2008, this tax relief will continue for another three years, covering debts discharged through calendar year 2012.)
To qualify for this relief, the following conditions must be met:
- The home must be your primary residence (owner-occupied). Rental properties, secondary residences, vacation homes, and investment properties are ineligible for relief.
- Only debt from buying or improving the property is covered by the new law; second mortgages and HELOCs do not qualify.
Check with a tax accountant to make sure that you qualify, because if you do not, you will be responsible for paying income taxes on the forgiven debt.