September 27, 2007 - Yesterday, the House Ways and Means Committee approved a bill that would end the practice of charging taxes on debt that is forgiven by banks. The current tax affects homeowners who lose their homes due to foreclosure or who sell their home for less than is owed on it (known as a "short sale"), and would save taxpayers about $650 Million each year.

Under current tax law, if your bank allows you to sell your home for less than you owe on it, the difference between what you owe and the sales price is considered taxable income. For instance, if you owe $400,000 on your mortgage and you can only sell your home for $300,000, then the IRS will tax you on the $100,000 difference. The law is often a bewildering example of bureaucracy at its finest to people who already find themselves in financial distress.

Because of the current mortgage crisis, as many as 2 million homeowners face foreclosure between now and the end of the year. This has created an outcry over the tax on forgiven debt. Many consumer groups consider it to be nothing more than additional penalties heaped on the backs of those who can least afford it.

The proposed new law would permanently end the tax. The Bush administration had supported a three year moratorium on the current tax law, but it appears that if the permanent ban makes it through both chambers of Congress, the President will sign it.

The bill would also change tax laws surrounding the purchase and sale of second homes. Current law allows people with a vacation home to turn it into their primary residence. After they have lived in it for 2 years or more, the home can be sold and as much as $500,000 in profit is exempt from taxes for couples; $250,000 for individuals. Under the proposed new law, profits would only be exempt from taxes for the period of time that the home was occupied by the owners.

It is unclear whether or not the bill will survive in its current form, but it does appear that some form of tax relief will be available to distressed homeowners before the end of this year.

by Jim Malmberg

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