Homeownership

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How to Pay Zero Taxes on Mortgage Debt Forgiveness After Foreclosure or a Short Sale

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Did you go through foreclosure, modify your mortgage, or do a short sale last year and sell your home for less than what was owed to your mortgage lender? If so, you probably got a 1099-C, a Cancellation of Debt, from your lender and you now need to know how to account for that transaction on your federal income taxes.

In particular, you want to make sure that any mortgage debt that was partly or entirely forgiven doesn’t wind up causing you to pay unnecessary taxes to the IRS.

Thankfully, during tax years 2007 through 2012, you may be able to claim special tax relief and exclude the debt forgiven from your income.

If you or anyone you know received a 1099-C, here are 10 facts the IRS wants you to know about Mortgage Debt Forgiveness.

Normally, debt forgiveness results in taxable income. However, under the Mortgage Forgiveness Debt Relief Act of 2007, you may be able to exclude up to $2 million of debt forgiven on your principal residence.
The limit is $1 million for a married person filing a separate return.
You may exclude debt reduced through mortgage restructuring, as well as mortgage debt forgiven in a foreclosure.
To qualify, the debt must have been used to buy, build or substantially improve your principal residence and be secured by that residence.
Refinanced debt proceeds used for the purpose of substantially improving your principal residence also qualify for the exclusion.
Proceeds of refinanced debt used for other purposes – for example, to pay off credit card debt – do not qualify for the exclusion.
If you qualify, claim the special exclusion by filling out Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness, and attach it to your federal income tax return for the tax year in which the qualified debt was forgiven.
Debt forgiven on second homes, rental property, business property, credit cards or car loans does not qualify for the tax relief provision. In some cases, however, other tax relief provisions – such as insolvency – may be applicable. IRS Form 982 provides more details about these provisions.
If your debt is reduced or eliminated you normally will receive a year-end statement, Form 1099-C, Cancellation of Debt, from your lender. By law, this form must show the amount of debt forgiven and the fair market value of any property foreclosed.
Examine the Form 1099-C carefully. Notify the lender immediately if any of the information shown is incorrect. You should pay particular attention to the amount of debt forgiven in Box 2 as well as the value listed for your home in Box 7.

If you have questions about accounting for forgiven mortgage debt, get help from an accountant or seek free tax preparation and tax filing assistance from IRS-trained volunteers through the VITA program, which is available nationwide.

You should also consult IRS Publication 4681, Canceled Debts, Foreclosures, Repossessions and Abandonments. You can get a copy of this publication free of charge by calling the IRS at 800-TAX-FORM (800-829-3676).

How did Lynnette Khalfani-Cox erase $100,000 in debt in 3 years?

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Author: The Money Coach

In my book, Zero Debt, I explain how I got into debt (mainly via overspending), and also what it took to get me out of debt. To pay off my credit card bills, I used the exact same strategies I outlined in my book – getting a budget together, cutting back on frivolous spending (like vacations & dinners out), refinancing my auto loan, negotiating with my creditors for lower interest rates, doubling and tripling up on the minimum payments I was making, and using “windfalls” or “extra” money, like income tax checks and year-end bonuses from my job to pay off debt, etc.

Making Tough Choices

I also made some tough choices, like taking my two older kids out of private school and putting them in a less expensive private school. (They’re actually now in public school, and doing just great). After nearly 3 years of all this, I’d paid off $70,000 in credit card debt. Then in early 2004, my ex-husband and I sold some land we owned and used $30,000 to pay off the last $30,000 of credit card debt we owed.

In your question, you mentioned joining a debt management plan and taking on a second job. I know those were tough steps for you to take. But congratulations for doing so, because they will definitely help you become debt free faster. Lastly, I don’t know if you have a copy of Zero Debt. (The original version came out in late 2004; the updated, second edition of the book came out in 2009). In any event, in Day 25/Chapter 25 of Zero Debt, I also explained three different debt pay-off strategies that you can use to knock out credit card debt. (In my case, I used Strategy #2). Good luck in eliminating those credit card bills!

I owe more than my house is worth and I have bad credit. What should I do?

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Author: The Money Coach

Q: I am a Single Woman Sharing a Mortgage with my Mother. I Purchased the House From her in 2004 to Prevent Her from Filing Bankruptcy and Losing her Home. We’ve Refinanced Twice and Now the Loan is Twice the Amount of What the House is Worth. My Credit is Not Great. I’m in Debt Minus the Loan on the House of About $15,000. The Bulk of That is a $10,000 Loan I Applied for an got (Surprisingly) While I was Unemployed. Isn’t That Called Predatory Lending. I Would Love to Leave Here and Find My Own Place But I Need to Get My Credit in Order. Some of My Debts are 5 Years Old. I Don’t Want to Pay These If I Really Shouldn’t. What’s the Best Thing to do? Also, Re: the $10,000 Loan, I Know I Should Not Have Applied for the Money But I was Desperate As Our Mortgage Was 3 Months In Arrears and In Danger of Being Foreclosed On. Is There a Way That I Could Get This Debt Removed as it was a Predatory Situation?

A: It sounds like you and your mother can not only not afford your home, but the house itself is also severely underwater. I understand your desire to improve your credit and get your own place, but honestly, you must fix problems A, B, and C before you can move on to issues D and E. In this case, problems A, B and C are: getting realistic about your financial past and present, learning how to create and live with a budget, and dealing with your home dilemma. Until you first do those things, you won’t be able to pay off your debts (issue D) or improve your credit (issue E). Without tackling first things first, you’ll also put yourself at risk of losing another home simply because you’ve neglected to learn certain financial lessons.

So let’s start with the first thing: a reality check. You seem to have attempted to throw your mother a lifeline, only to wind up nearly drowning yourself. Your email said you bought the home from her back in 2004 to help her avert bankruptcy and foreclosure. Despite your best intentions, you also stated that you and her wound up 3 months behind on the mortgage and in danger of being foreclosed upon anyway. That’s what led you to seek out the $10,000 loan you’re not saddled with. What happened to during the time of your unemployment? Your message indicated that you were twice laid off and that you “made some not so smart money decisions?” Whatever those decisions were, you have to truly acknowledge them, and make sure that you don’t repeat them.

It sounds to me as if you had your mother have been stuck in a cycle of making repetitive bad decisions. I hope you don’t think I’m being too harsh on you. Because I’m telling you these things honestly out of care and concern for your situation. I can sense your struggle and I know it’s very hard to be in such a tough predicament. I’m just giving you a bit of “tough love,” however, because I’ve seen cases like this time and time again. The only way people get out of these dilemmas is by actively breaking the cycle and ending the behavior that landed them in hot water.

Now let’s move on to the second issue: having a proper budget. Unfortunately, most of us grow up never having learned to create a realistic budget. This is likely true of your mother, and it’s probably true for you as well. Read this article I’ve written on budgeting and this post too, to get some ideas on how to budget to better manage your finances. Additionally, read this post about budgeting and financial planning when you go thorugh a layoff or have reduced income.

So what about the house? The fact that you’ve both faced foreclosure at least twice, and have even refinanced twice since 2004, yet you have still wound up deep in debt and deeply underwater tells me that you can not truly afford this home. I assume you refinanced in recent years to take advantage of relatively low interest rates. But I also suspect that you took cash out of your home as well. I could be wrong. But that’s certainly what many people did during the heydey of the housing market. How was that money used? Did you pay off debt, set aside any savings, or do something else with it? I recognize, of course, that part of the reason your house is likely under water is because home prices have fallen greatly in many parts of the country. But the fact that you owe twice as much as your home is worth signals that something else was going on.

If I were you, I would investigage the prospects of a short sale or a deed in lieu of foreclosure. I don’t know where you live, but it’s highly doubtful that your home will “come back” in value anytime soon. Unfortunately, short sales and deeds in lieu of foreclosure do have negative ramifications for your credit. But these are short-term hits from which you can recover, if you’re prepared to move on and do the right thing financially in the future.

You asked about the loan you got while you were unemployed. I don’t know of any way to legally get this loand eliminated or removed from your credit reports. Just because someone loaned you money at a time when you weren’t working doesn’t make the loan a “predatory loan.” Unfortunately, scores of lenders all across the country did this — both reputable lenders and not-so-reputable ones. Honestly, I don’t know which camp your lender falls into.

Nevetheless, again, I want you to be willing to take responsibililty for your own actions, and not put the blame elsewhere. You stated to me that you knew you shouldn’t have applied for the loan in the first place but that you were “desperate.” Plus, the reason you applied for the loan was because you were in arrears on your mortgage. That’s certainly not the fault of the lender that gave you the $10,000 loan. So it’s not fair to now accuse them of “predatory” lending. Predatory loans are characterized by unreasonably high interest rates, abusive pre-payment penalties, or excessive loan fees including enormous commissions for lenders or mortgage brokers.

Don’t worry about paying off 5-year-old debts at this point. You’ve got enough on your plate to try to pay your current bills. And trust me: In the long run, you will be far better off if you take my advice and deal first with these issues before you attempt to pay off old debts or improve your credit rating in order to try to get another place to live.

Predatory Lending: Racial Profiling at its Worst (theroot.com)
Deducting Mortgage Interest FAQs (turbotax.intuit.com)

How can I make some extra cash, I am living paycheck to paycheck

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Author: The Money Coach

By Lynnette Khalfani-Cox, The Money Coach

If are living paycheck to paycheck and need some extra cash, there are lots of ways to raise money. Here are a few of them.

Sell Stuff You Don’t Want, Need or Use

Are there pants, sweaters, dresses or suits in your closet that you haven’t worn in a month of Sundays? That clothing would be far more valuable in the hands of someone less fortunate than you. Here’s a case where you can do well by doing good. Donate unused or unwanted clothing, electronics and other household goods to charity – and get a tax deduction for your generosity. Alternatively, you could have a garage sale and instantly pocket the cash, then use the money toward vanquishing your credit card debt. In addition to clothes, you can sell unwanted or unused toys, furniture, appliances, and other household items.

Turn a Hobby Into Cash

Whether you turn a hobby into a cash-making business, sell new or used products online, or stuff envelopes for another business, the key is for it to be a no-cost or low-cost venture that can be operated exclusively from the privacy of your own home. Why these characteristics? For starters, you don’t have the money to buy tons of products. You also don’t want to have to hire anybody or lease space. You want to keep all the money you earn, right?

Adjust Your Withholdings at Work

If you’re getting a big income tax refund from the government each year, you are squandering a precious financial opportunity. Currently, the IRS reports that the typical tax refund check tops $2,500. For those of you who routinely receive tax refunds, instead of giving the government an interest-free loan, get your money now. Go to your HR office at work and adjust your W-4 withholdings so that your employer takes less money out of your paycheck. This way, you’ll have more money coming in every pay period, and you can use that extra money to knock down your debts. Check out IRS publications 505 and 919 at www.irs.gov to learn how to properly adjust your withholdings so that you don’t take out too much money and end up owing taxes.

Get a Second Job

I realize that most people already work really hard, and might even be covering for recently laid-off co-workers, but if you can fathom the idea, consider getting a second job or part-time work, even if just for three months. This may seem like a burden, but trust me, this option can work wonders. Having additional income can not only provide you with money to eliminate credit card debt, it can also help you build an emergency savings fund – hopefully before you’ll ever actually need to tap it.

Squeeze money from your residence

Whether you rent or own, getting a roommate or housemate is another way to generate income. If you can tolerate having an extra person around, you’ll likely find takers willing to lease out a spare bedroom or space in your attic or basement, especially given the high rate of people being put out of their homes these days due to foreclosure or inability to get a mortgage for their on place. Taking in a roommate will provide you with extra cash to pay toward your debts. However, before forging ahead if you are a renter, be sure you’re not violating any clauses in your rental contract by letting someone else live with you.

Leverage The Internet To Spend Less

Many of us routinely may too much for goods and services that we could get for far less money, if only we’d take the time to comparison shop. Thankfully, with the power of the Internet, you can easily cut your spending and apply the savings to your debt by comparison shopping online. Here’s what to do: Come up with a list of at least five things you can do to curb your spending. Also think about major categories of spending where you’d like to be able reduce your costs. Then visit the financial website http://www.lowermybills.com, which helps you comparison shop to save money in 18 categories of household bills, ranging from home equity loans to auto insurance to long-distance telephone service. They do the hunting for you to make recommendations about where you could be saving money. But don’t rely exclusively on leveraging the Internet. Consider this area a unique challenge. Get creative about your finances. Look at ways you can save money by shopping around or by modifying some of your spending habits, whether it’s checking out books from the library instead of buying them at a bookstore, or using a movie service like Netflix instead of going to the movies.

Whatever cost savings you achieve – including doing things like clipping coupons or canceling unnecessary magazine subscriptions – make sure you apply that “extra” money to your debts, save it, or spend it in a positive way, as opposed to just blowing the money.

How to pay off your credit card debt (askthemoneycoach.com)
New Credit Scoring Rules to Make Qualifying for Loans Tougher in 2011 (askthemoneycoach.com)

Ask The Money Coach

Archive for the ‘Homeownership’ Category

How to Pay Zero Taxes on Mortgage Debt Forgiveness After Foreclosure or a Short Sale

Related Questions:

How did Lynnette Khalfani-Cox erase $100,000 in debt in 3 years?

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I owe more than my house is worth and I have bad credit. What should I do?

Related Questions:

How can I make some extra cash, I am living paycheck to paycheck

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Ask The Money Coach

Archive for the ‘Homeownership’ Category

How to Pay Zero Taxes on Mortgage Debt Forgiveness After Foreclosure or a Short Sale

Related Questions:

How did Lynnette Khalfani-Cox erase $100,000 in debt in 3 years?

Related Questions:

I owe more than my house is worth and I have bad credit. What should I do?

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How can I make some extra cash, I am living paycheck to paycheck

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