Render Unto Caeser

Paul, My Chapter 7 bk was recently discharged.  Included was a mortgage on an investment property, very upside down.  I am now considering doing a short sale rather than foreclosure.  Seems best for everyone.  However, I want to be sure I don’t “mess up” the exclusion from debt cancellation income which bk affords for discharged debts.  For tax purposes, would the ultimate disposition of a short sale versus foreclosure or deed in lieu make any difference as far as the exclusion of debt cancellation income is concerned?

By the way, I have appreciated the very useful info on your blog, and your scriptural insights as well, and have referred this blog to a few associates and will continue to do so.

Jim

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Hello Jim,

I’m not a tax advisor, but I’ll say that if the bankruptcy is filed prior to the forgiveness of debt, then there is no tax liability.  The consumer would file form 982 with the IRS and meet the bankruptcy exclusion to debt forgiveness – period.

The problem arises when the discharge of indebtedness occurs prior to the bankruptcy.  If the debt forgiveness occurs prior to the bankruptcy and can’t be excluded from gross income because of the Mortgage Forgiveness Debt Relief Act of 2007, the insolvency exclusion, or other means then the taxes will be due.  Timing is definitely important and it sounds like your timing is right.

I always say, if someone is going to file bankruptcy, then do it early.  At the time the case number is issued, the credit reporting on all of the tradelines stops and the balances are zeroed out.  Now, while I say if someone is going to file bankruptcy they should do it early, I also say that when someone qualifies for bankruptcy and particularly Chapter 7, documenting such to the shorting lender may be the icing on the cake for short sale approval with a full release of liability.  So, in the latter scenario, there would be no bankruptcy and no foreclosure.  Bear in mind, the public records entry of foreclosure may still raise its ugly head even after the bankruptcy; it’s not only the tradeline that has to be dealt with.

Back to the issue and something that people are unaware of is that the 1099 shows up whether it’s a short sale, deed-in-lieu, or foreclosure.  It’s either a 1099-C in the case of a short sale or a 1099-A – the ‘A’ standing for abandoned property. 

Thanks for the questions and what’s more important than the Word of God?

Paul

This author is not an attorney or tax advisor and this information should not be considered legal or tax advice.  Please consult an attorney for legal advice and consult a qualified tax advisor for tax advice.