A homeowner who is undergoing financial problems may consider a short sale as a way out that is better than a foreclosure. However, an important factor to consider is the tax implication of the short sale transaction.
A short sale means that the lender will be receiving an amount that is less than the remaining unpaid loan of the borrower. This means that the property will be purchased for a discounted price but the lender has agreed because he has calculated that the price that he could obtain in an auction after a foreclosure minus the related costs would even be lower.
However, the lender may submit a Form 1099-C for the deficiency and the IRS may consider it as loan forgiveness and may require the borrower to pay a corresponding income tax. It the borrower is not insolvent and has other assets, such as savings account, he could be asked to pay ordinary taxes for the amount specified in the Form 1099-C.
Basically, the lender must send the borrower and the IRS copies of a Form 1099-C if the amount that he writes off is at least $600. When this happens, the borrower is required to report the amount as income in his tax return for the year when the short sale occurred.
A possible problem is that the lender may have neglected to send a copy of the form the borrower but has sent one to the IRS. If the borrower fails to include the amount as income in his tax return, the IRS could issue a tax bill or an audit notice. Consultation with tax lawyer is vital in the short sale because there may be exemptions that are applicable.
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Good article. Question, as a holder of a 2nd trust deed, in a short sale where I loose a good portion of my investment, can I claim that lo0se on my taxes?
As the holder of a second position. You are just that. The first position lender will be satisfied first, then if proceeds are left over..which in the case of short sale..the second position lender may be in a poor position to receive any proceeds..the definitive answer to that question would be best handled by an Attorney.
As far as a tax write off that would be a question for a CPA. I would guess that if the property were purchased as an investment any loss may be deductible..it would depend on how the investment has been treated with regards to each taxpayers unique position.