By now, you’ve probably heard of the Cancelled Debt and Mortgage Forgiveness extension, a new tax bill passed by Congress in February. This tax rule provides relief to those who have faced foreclosure or canceled debts.
Essentially, it means you can exclude that ‘income’ from being taxed.
Canceled Debt Income
When a lender forgives or cancels your debt, the IRS considers it income. As such, it’s taxed as income. This can put prior homeowners in a precarious financial situation.
“Generally, if a debt you owe is canceled or forgiven, other than as a gift or bequest, you must include the canceled amount in your income.” (source)
When you accept money which you were required to repay to an institution, the law says that you kept the money instead of repaying.
So, you owe taxes. Even if you never had the money on hand.
That taxable income needs to be disclosed in your tax filing. Since the income goes to your household, you have to withhold the appropriate amount of taxes.
The IRS is clear about the rule – you must include the canceled amount in your income.
How to report it?
Lenders must report this act of debt forgiveness to the IRS by filling out form 1099-C. This alerts the government of the income, which will hold the taxpayer responsible for it.
It notes your debt has been waived and should be included in the filing of the taxes at the end of the year. You would enter it as “other income” in line 21 of form 1040, to be exact.
Mortgage Restructuring & Foreclosures
For people who experienced foreclosures or mortgage restructuring from 2007 to December 2016, this extension is for you.
According to the Cancelled Debt and Mortgage Debt Relief Act, you don’t have to report the forgiven debt to the IRS. So, that means you also get a pass on paying the income tax bill you’d normally receive for such income.
What is it all about?
It was first issued in 2007 and scheduled to sunset on January 1, 2018. Thankfully, Bill H.R. 2543 was introduced to Congress in May to extend it through 2018. Now, anyone who faced mortgage restructurings or foreclosures prior to January 1, 2017, can qualify for the extension.
It’s an interesting move in the ongoing efforts of Congress to ensure proper taxation.
If you qualified before that date and didn’t take the opportunity at hand, you may have little time left over to file an amended tax return. You have about 3 years from the date you filed a return to amend it, so you might be able to take advantage of that now.
The Act allows taxpayers to exclude about $2 Million of debt forgiven or canceled by mortgage lenders on their main home.
You can claim it now by filling out the form IRS 982 with your amended tax return.