Will the Mortgage Forgiveness Debt Relief Act be extended?

18 Jan Will the Mortgage Forgiveness Debt Relief Act be extended?

The Mortgage Forgiveness Debt Relief Act became federal law in 2007. It allowed taxpayers to avoid income taxes on unpaid mortgage debt, including debt reduced through short sale, mortgage modification or foreclosure. The original Act had been extended through 2016, but it is unclear whether a Trump presidency or Republican-controlled Congress will seek to extend this homeowner protection.

Today, U.S. Senator Debbie Stabenow (D-MI) introduced a bi-partisan bill to extend the Mortgage Forgiveness Debt Relief Act through the end of 2018, but questions remain whether there is enough political will to get this bill to President Trump’s desk or whether he will sign it.

Whether the Act is extended is a major issue for homeowners behind in their mortgage payments. For example, let’s say your home is in foreclosure, and a Final Judgment is entered in the amount of $295,000. This judgment is in rem or “against the property,” and it permits the Court to set a foreclosure sale. If the value of your home on the date of the foreclosure auction is $200,000, there is a deficiency balance of $95,000.

The lender can do one of three things. Firstly, it can choose to do nothing, which would be your best outcome. It is also your least likely outcome, because it takes so little energy to do one of the other two things.

If the lender believes the deficiency is collectible, the plaintiff could ask the Court for a money judgment against you for $95,000, which is just like any other money judgment. In Florida, the lender has one year from the foreclosure sale date to seek a deficiency judgment. If Federal National Mortgage Corporation (“Fannie Mae”) owns your loan, the odds are good that this will happen to you, and they will hire Dyck-O’Neal, Inc. to collect the deficiency.

Finally, if the lender believes you are not collectible, the plaintiff can “write off” the $95,000 for tax purposes. To do this, the lender would send you a 1099C. Prior to January 1, 2017, because of the Act, the Internal Revenue Service would not consider this a taxable event. Now that the Act has expired, this could be considered ordinary income to you.

The Internal Revenue Service considers a debt listed on a 1099C as Cancellation of Debt” (COD) income. If the Act is not extended, affected homeowners will pay income taxes on these mortgage amounts forgiven by their lenders. This also means there would be a tax liability for “forgiven” mortgage principal due short sale or loan loan modification.

Without the extension of the Act, what is a homeowner to do? There are only two major exceptions for consumers seeking to avoid COD income:

  • If the taxpayer is “insolvent” at the time the 1099C is issued, or
  • If the taxpayer discharges the debt in bankruptcy

Insolvency Exception to the Rule

According to IRS guidelines, a taxpayer is “insolvent” only if total liabilities exceed the fair market value of assets.

For example, if a taxpayer has $195,000 in liabilities, but only $150,000 in assets, they are considered insolvent under the Internal Revenue Code. If a debt of $55,000 was cancelled, the taxpayer will have $10,000 in gross income because total liabilities no longer exceed total assets because cancelling $55,000 in debt means the taxpayer now has only $140,000 in liabilities.

Keep in mind that “assets” include any and all assets – even retirement accounts and encumbered assets (like a car with a lien on it).

Bankruptcy is Better

The criteria for the insolvency exclusion are considerably more strict than those used under bankruptcy law. For example, any and all money in a qualified retirement account such as an I.R.A. or 401(k) is exempt from creditors and not included in bankruptcy.

You may think you make too much money to file a bankruptcy to avoid the deficiency balance and COD income. “Wealthy” people often files bankruptcy for seeking asset protection in Bankruptcy Court, and it is possible for a wealthy person to avoid this tax liability in bankruptcy without sacrificing any assets or income. For more information, we encourage you to read Bankruptcy As An Asset Protection Tool.


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Chip Parker is the managing partner of Parker & DuFresne, P.A., where he represents Northeast Florida businesses and consumers facing bankruptcy, and homeowners facing foreclosure. His firm files more homeowners in the Mortgage Modification Mediation Program than any other law firm in Northeast Florida. Parker is the recipient of Jacksonville Area Legal Aid's prestigious Award for Outstanding Pro Bono Service. Mr. Parker is an active member of the National Association of Consumer Bankruptcy Attorneys and National Association of Consumer Advocates.
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