Too many people are feeling quite a squeeze on their finances with job loss or pay reductions, divorce and other factors that affect their income. Some of the worst things I see are people attempting to do the right thing, and subsequently deplete their savings accounts and 401k Plans to pay their mortgage, max out their credit cards with normal expenses like groceries and gas, all to avoid losing their home – only to come to the result in the end anyway and now with nothing left behind them.
One major factor that made this situation astronomically worse is the fact that any debt that is forgiven (mortgage debt included) must be reported on a 1099 and claimed as taxable income. Because there were so many Americans in this situation and it was adding such a great amount of insult to injury, the IRS passed temporary legislation called “The Mortgage Debt Forgiveness act of 2007″. This allows for any mortgage debt related to the purchase of your primary residence to be exempt from this taxable income requirement. The issue with this now is that this act will be expiring December 31, 2012.
What this really means is that you should absolutely be evaluating if it more advantageous to you to short sell your house now so that you can take advantage of this temporary legislation. I discussed in another article about if you should consider renting the property until the market gets better, but in reality, you are most likely to end up selling long before the market improves enough to make any difference for you at all, and then at that time, you will no longer have the benefit of this exemption of taxable income for 2 reasons. The property will no longer qualify as your primary residence and the deadline will have expired.
Make no mistake….this should not be taken lightly. Often times the debt I see forgiven on mortgages ranges from $80k to often times several hundred thousands of dollars. Imagine having to pay tax on that at your taxable rate of 32% or whatever). And this is money you have certainly NOT seen in your bank account!! Do not confuse this with capital gains or losses…this will be straight taxable income on the sale as if it were on your W-2 without ANY withholding!!!
In considering this strategy, make sure to take into consideration the time it takes to sell a property in this market as well as the time it takes to work the short sale. Start early to make sure you have plenty of time to complete everything well prior to the end of the year.