26 Aug Tax Debt From Home Foreclosure – Another Reason To Look At Bankruptcy
Losing your home to foreclosure is a heavy blow. Then a tax audit notice arrives in the mail. The IRS claims you owe more tax. Foreclosure, or even selling your home for less than you owe can have unpleasant tax consequences. A recent New York Times Business section article describes a couple in Allentown, Pennsylvania, who received a bill for $36,603 from the IRS for taxes due after their home was foreclosed. By far the easiest way to avoid this situation is to file for bankruptcy before a foreclosure sale occurs. Debts discharged in bankruptcy are not considered income for IRS purposes.
If you believe that the sale price of your home in foreclosure will fall substantially short of the loan debt, tax advantages of bankruptcy may outweigh the costs of filing, damage to credit rating, and other disadvantages of bankruptcy.The fault in the Pennsylvania case (see “Let’s Give the IRS a Break” on Credit Slips) lay with Wells Fargo for incorrectly reporting the market value of the property, and not with the IRS. Lenders in foreclosure proceedings have been known to inflate the amount owed with questionable fees. Any attorney or CPA presented with a tax bill of this nature should carefully examine the lender’s claims both of amount owed and the value used for the home to see whether any debt was actually forgiven.
However, many of today’s foreclosures, sparked by stagnant or falling property values on homes financed through subprime mortgages, will involve property which cannot be sold for what is owed against it. In this case, the loss the lender takes by forgiving the debt is a real loss and the IRS liability to the homeowner may not be so easily disposed of. There are circumstances other than bankruptcy under which a forgiven home mortgage may be tax exempt, but none of them should be relied upon without consulting with an attorney or tax professional.
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