When a home is foreclosed on and sold for less than the amount owed, the bank has two options:
1. Sue the ex-homeowner for the deficiency (an amount the bank knows they’re not going to get) or 2. Write the loss off on their corporate taxes.
When a bank writes a loss off on corporate taxes, the amount of the write off becomes Debt Forgiveness Income to the ex-homeowner. The IRS says that when someone’s debt has been forgiven, their total worth has gone up, therefore this counts as income. When this happens, the ex-homeowner will actually get a 1099-C for the difference and will owe income taxes on the new amount.
For example, a debtor who makes $50,000 a year with a balance of $200,000 lets their home go into foreclosure. The house is sold on the courthouse steps for $150,000. The bank can either sue him for the $50,000, which they know they’re unlikely to obtain, or they can write the $50,000 off as a loss which causes the debtor’s $50,000 of taxable income to increase to $100,000 for that year. Can you imagine having to pay taxes based on double your income without having actually earned the income?
There are situations when you may be exempt from a forgiveness of debt and the related taxes.
This is an unfortunate but real possibility for people who go into foreclosure without knowing what can happen to them. If you have questions about how to avoid these issues or don’t want to go through them without legal counsel, please contact us at (904) 685-1200 for a free initial consultation or contact a Jacksonville Foreclosure Attorney or speak with a Jacksonville Bankruptcy Attorney.