The extension prevents homeowners who go through a short sale from being taxed on the amount of their mortgage debt that has been forgiven. Normally, debt that has been forgiven by a lender counts as taxable income.
Originally enacted in 2007, the Mortgage Forgiveness Debt Relief Act allows debt forgiveness of up to $2 million to NOT be considered taxable income if:
- The house has been used as the principal place of residence for at least two of the previous five years.
- The debt has been used to buy, build, or make substantial improvements to the home.
Obviously, this is a huge relief to owners of distressed properties who are already facing financial burdens and eases many of the concerns they may have had about moving forward with a short sale.
UPDATE 1/1/2014: The Mortgage Forgiveness Debt Relief Act expired December 31, 2013. The good news is that sellers may still be exempt from tax liability under the “insolvency clause” of the Internal Revenue Code.
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