HOUSING FINANCE POLICY CENTER COMMENTARY
←
→
Page content transcription
If your browser does not render page correctly, please read the page content below
HOUSING FINANCE POLICY CENTER COMMENTARY
URBAN
INSTITUTE
The Mortgage Forgiveness Debt Relief Act Has
Expired—Renewal Could Benefit Millions
LAURIE GOODMAN AND ELLEN SEIDMAN
Under the federal tax code, when a lender forgives technique that has proven especially effective in
part or all of a mortgage, the borrower must count keeping homeowners in their homes. With the
that forgiveness as taxable income. Congress wisely expiration of the Act, borrowers receiving principal
recognized that this tax rule would discourage the reductions risk being taxed on the forgiven debt,
forgiveness of debt as a tool to reduce foreclosures sharply reducing the utility of the modification.
and add insult to injury for borrowers already
struggling to pay their bills, many of whom had just Just as important, the large settlements between
lost their home. So in 2007, it passed the Mortgage government regulators, lenders, and servicers are
Debt Forgiveness Act (the Act), which excludes this increasingly including commitments by institutions
forgiveness from taxable income. to provide significant sums of debt forgiveness. In
the 2012 settlement between the State Attorneys
On December 31, 2013, the Mortgage Forgiveness General, the Department of Justice, and the
Debt Relief Act expired. 1 Unless Congress extends nation’s five largest lenders, $10 billion of the
it, housing debt that has been forgiven or written off $25 billion settlement was set aside for principal
after 2013—through short sales, foreclosures, or forgiveness. The actions under this settlement have
loan modifications that include principal been substantially completed but it has set the
forgiveness—will generally be treated as taxable template for others to follow. In November 2013,
income. A bill that would extend the Act for two JPMorgan Chase reached a $13 billion settlement
years has been introduced by Representative Bill with regulators over soured mortgage securities
Foster (D-IL), and many analysts predict that the sold prior to the 2008 crisis; $4 billion of the
Act will eventually be renewed. In the meantime, settlement was set aside for consumer relief, which
however, uncertainty over its renewal has made it will take various forms, including principal
increasingly difficult for lenders and borrowers reduction loan modifications. In December 2013,
alike to take actions that will be beneficial to both Ocwen reached a $2.2 billion settlement, with
parties. We calculate this uncertainty will affect up $2 billion to be used for principal reduction
to 2 million borrowers who are seriously delinquent modifications. We can expect to see a series of
or in foreclosure, many of whom will lose their additional settlements in the coming year, with
homes, and as many as 1.4 million more who could much of the restitution in the form of principal
potentially benefit from loan modifications that reduction.
include principal reductions.
The timing of the expiration of the Mortgage
The case for rapid resolution is made more poignant Forgiveness Debt Relief Act is thus particularly
by the fact that failure to do so contradicts other unfortunate because it undermines the effectiveness
public policy initiatives. Last July, the U.S. of an increasingly utilized tool to reduce
Department of the Treasury extended the Home foreclosures. In this paper we describe the
Affordable Modification Program (HAMP) for two implications of the Act’s expiration and call for its
years, until year-end 2015. HAMP loan rapid reenactment.
modifications may include principal reduction, a
www.urban.org 1HOUSING FINANCE POLICY CENTER COMMENTARY • FEBRUARY 17, 2014
History of the Mortgage Cancellation of Debt Has Been
Forgiveness Debt Relief Act Widely Used to Provide Borrower
Generally, canceled or modified debt is treated as Relief
income that can be taxed by the government (hence We can quantify how widely debt cancellation has
the term, “debt income”). However, this is not been used to provide relief for borrowers who have
always the case; there are a number of lost their homes, as well as for borrowers who have
exemptions: been able to keep their homes through sustainable
mortgage modifications. More important, we can
• Debts discharged through bankruptcy
estimate how many borrowers could be affected
• Borrowers who are insolvent when their debt is going forward.
canceled (a taxpayer is insolvent when total
debts exceed the fair market value of assets) Borrowers who have lost/will lose their
• Certain farm debts homes
• Nonrecourse loans 2 Hope Now reports that 6.9 million home
liquidations (short sales, deeds-in-lieu, and
• Between 2007 and December 31, 2013, Qualified
foreclosures) occurred between the third quarter
Principal Residence Indebtedness, as provided in
of 2007 and November 2013. Without the Act,
the Mortgage Forgiveness Debt Relief Act.
many of these 6.9 million households would have
The Act exempts from taxation debt canceled when been hit by a large tax bill even after surrendering
a borrower loses a home through a short sale, deed- their homes. Although liquidations have slowed, the
in-lieu, or foreclosure, and debt forgiven through a crisis is far from over. The National Delinquency
loan modification that includes principal Survey, conducted by the Mortgage Bankers’
reduction. 3 The forgiven debt, however, must have Association (MBA), finds that 2.3 million
been acquired in the purchase, building, or borrowers—5.65 percent of sampled loans—are
significant improvement of the borrower’s principal either seriously delinquent or in foreclosure. The
residence, and the debt must be secured by that survey is based on a sample of 40.8 million loans,
property. 4 which the MBA estimates represents 88 percent of
all loans. Assuming that the rest of the market has
These rules raise some interesting tax policy the same characteristics as the sampled portion, the
questions. The tax code treats debt forgiveness as total number of borrowers who are seriously
income because a reduction in debt is equivalent to delinquent or in foreclosure is actually closer to
an increase in wealth. However, the tax code is very 2.7 million.
inconsistent in its treatment of income. Borrowers
in recourse states who have taxable debt income However, a portion of these borrowers live in
because they have lost their home through short nonrecourse states; for them, the debt extinguished
sales, deeds-in-lieu, or foreclosure are treated more on foreclosure is not taxable. 5 Table 1 (based on
harshly from a tax perspective than borrowers who MBA data) shows that 14.4 million of the
sell their home in the normal course of life events. 40.8 million loans in the MBA’s sample, or
These borrowers can generally exclude the profit 35.2 percent of the loans, are in nonrecourse states.
(capital gains) from the sale. Moreover, since However, nonrecourse states have
nonrecourse mortgages are usually exempt, debt disproportionately fewer seriously delinquent or
relief on most home mortgages in California is foreclosed loans; out of the 2.3 million loans that
exempt from tax, while most relief provided in New are seriously delinquent or in foreclosure, only
York or New Jersey is taxable. This is obviously 550,000, or 23.8 percent, are in nonrecourse states.
inequitable. Nonrecourse states tend to be nonjudicial states,
which have made greater progress in clearing loans
in serious delinquency or foreclosure. For the entire
country, 5.65 percent of loans are in serious
www.urban.org 2HOUSING FINANCE POLICY CENTER COMMENTARY • FEBRUARY 17, 2014
Table 1: Number of Loans Seriously Delinquent or in Foreclosure
Loans Seriously Loans in Delinquent or
Delinquent Foreclosure In Foreclosure All Loans
Percent Number Percent Number Percent Number Number
United States 2.57 1,256,134 3.08 1,048,138 5.65 2,304,272 40,783,577
Nonrecourse States 2.13 243,332 1.69 306,387 3.83 549,719 14,369,134
Alaska 1.05 982 1.05 982 2.1 1,964 93,519
Arizona 1.65 13,003 1.26 17,028 2.91 30,031 1,031,976
California 2.14 74,363 1.42 112,068 3.56 186,431 5,236,830
Connecticut 2.53 22,890 4.76 12,166 7.29 35,056 480,875
Idaho 1.52 4,985 1.98 3,827 3.5 8,811 251,748
Minnesota 1.51 10,401 1.3 12,081 2.81 22,482 800,076
North Carolina 2.54 24,724 1.85 33,945 4.39 58,670 1,336,437
North Dakota 0.54 467 0.84 300 1.38 768 55,629
Oregon 1.72 19,400 3.34 9,990 5.06 29,390 580,835
Texas 2.25 39,007 1.32 66,489 3.57 105,496 2,955,069
Utah 2.11 6,064 1.48 8,646 3.59 14,710 409,750
Washington 2.54 27,046 2.38 28,864 4.92 55,910 1,136,390
Source: Mortgage Bankers Association National Delinquency Survey, Q3 2013.
Note: Serious delinquency defined as 90 or more days past due.
delinquency or foreclosure; for nonrecourse states, grew from 3.1 percent in 2010 to a peak of
it is 3.83 percent of loans. Bottom line: More than 16.2 percent in 2012, and then declined to
75 percent of loans that are seriously delinquent or 13.5 percent by the third quarter of 2013. 6 Earlier
in foreclosure are in states in which debt OCC Mortgage Metrics Reports show that from
forgiveness would be subject to taxation. That 2008 to late 2013, 7.9 percent of total modifications
affects approximately 2 million families. Without were principal reductions, with more in the 2012–
the protection provided by the Act, many of these 13 period than in the earlier years. This suggests
borrowers stand to not only lose their homes, but that cumulatively there have been approximately
also to face large tax bills. 545,000 principal reductions (6.9 million x
7.9 percent).
Borrowers receiving loan modifications
Going forward, we would expect the share of
There have been 6.9 million loan modifications
principal modifications to be larger than this
since the third quarter of 2007, approximately as
7.9 percent historical average, but smaller than the
many modifications as liquidations. Assessing the
most recent 13.5 percent. Improvements in loan
number of modifications that included principal
modification outcomes, coupled with the 2012 State
reductions is difficult. Principal reduction
Attorneys’ General Settlement (in which servicers
modifications are permitted on private label
receive greater “credit” for using principal
securities and bank portfolio loans, but not on loans
reduction), have resulted in increased use of
insured by Fannie Mae or Freddie Mac (the GSEs)
principal reduction. On the other hand, increasing
or government-insured loans. Modifications on
home prices will mean that going forward fewer
private label and bank portfolio loans comprised
principal reduction modifications will be net
37.2 percent of all modifications made in the third
present value (NPV) positive, a precondition for
quarter of 2013. How many of these included
modification. We therefore expect that over the next
principal reductions? The use of principal reduction
year, the percent of borrowers receiving a principal
is higher now than earlier in the crisis. The OCC
reduction will drop from the current 13.5 percent to
Mortgage Metrics Report indicates that the share of
about 11 percent of all borrowers receiving
all modifications that received principal reductions
www.urban.org 3HOUSING FINANCE POLICY CENTER COMMENTARY • FEBRUARY 17, 2014
modifications. Assuming 720,000 modifications per of debt were forgiven, then only $10,000 ($60,000
year (compared with 800,000 in 2013), – $50,000) would have to be included in income. It
approximately 160,000 borrowers will receive is unclear how many of the borrowers who would be
potentially taxable modifications over the next two taxable on forgiven mortgage debt because of the
years (11 percent of 1,440,000). expiration of the Act are insolvent and hence not
obligated to pay.
The GSEs do not presently allow principal reduction.
Former Federal Housing Finance Agency (FHFA) Internal Revenue Service (IRS) data on the use of
Acting Director Ed DeMarco had considered debt cancellation for mortgages are limited.
allowing principal reductions on GSE-guaranteed Taxpayers report mortgage debt excluded from
loans, and an FHFA analysis indicated that doing so taxable income by completing Form 982: Reduction
would have been beneficial to the GSEs. The FHFA of Tax Attributes Due to Discharge of Indebtedness.
nonetheless decided against allowing the GSEs to Where applicable, the written-down amount reduces
provide principal reduction, out of concern that cost the cost basis in the home. Lenders report all types of
savings would be offset by moral hazard: Borrowers canceled debts to the IRS on Form 1099-C:
opting to default to get a principal reduction. The Cancellation of Debt.
moral hazard issue is easily overcome by enabling
servicers of GSE loans to use the principal reduction Table 2 shows data from Form 982 taxpayer filings,
alternative (PRA) option available to servicers of compiled by the IRS’s Statistics of Income Division.
other loans under HAMP. 7 FHFA’s new director, Mel In the latest year for which data are available (2011),
Watt, is likely to revisit this issue. However, the 464,425 returns reported an exclusion from gross
expiration of the Mortgage Forgiveness Debt Relief income for cancellation of indebtedness on
Act pushes priority of the principal forgiveness issue Form 982, with an average exclusion of $123,014.
further down in the FHFA queue, and when Watt Out of these returns, 242,853 reported an exclusion
revisits the issue, approval will be less likely. for cancellation of indebtedness on a qualified
principal residence. This includes borrowers who lost
How Much Revenue Will Treasury their principal residence through short sales, deeds-
in-lieu, or foreclosures, as well as borrowers who
Gain from the Act’s Expiration? received a principal reduction. The amount of the
Estimates of potential revenues to be gained from mortgage debt forgiveness that was excluded cannot
the expiration of the Act vary greatly: Treasury be calculated from available data. 8
projects new revenues of $2.6 billion over two
The IRS data in Table 2 show that for 2011,
years, while the Joint Committee on Taxation
95,658 taxpayers remained in their home and were
projects $6.2 billion. These estimates are highly
required to reduce the basis in their principal
uncertain, however, because many borrowers will
residence pursuant to the Act. 9 The directions on the
not be obligated to pay the tax.
form make it clear that the basis adjustment is
The two most obvious reasons no tax would be due applicable only to borrowers who remain in their
are bankruptcy or insolvency, both exclusions to the home. Of the 95,658 borrowers who reduced the cost
taxation of debt income. Whereas a bankruptcy basis in their home, the average reduction was
filing requires a decision by the borrower, $135,058, for a total or $12.92 billion excluded. 10
insolvency simply means that, immediately prior to
It is difficult to reconcile these numbers with
the debt cancellation, the value of the taxpayer’s
market information on liquidations and principal
debts exceeds the value of his or her assets. For
reduction modifications in a number of respects.
example, if a taxpayer has assets of $50,000 and is
$100,000 in debt ($80,000 of that in a mortgage), First, there is likely underreporting. In 2011, 242,853
then the taxpayer is insolvent by $50,000. As long returns excluded debt forgiven on a qualified
as debt forgiveness is for less than the amount of principal residence, of which 95,658 reported a basis
insolvency, it is not taxed. If $40,000 of debt is reduction, meaning that the borrower remained in
forgiven, this debt would not be taxable. If $60,000
www.urban.org 4HOUSING FINANCE POLICY CENTER COMMENTARY • FEBRUARY 17, 2014
Table 2: Tax Return Information on Cancellation of Indebtedness, 2008–2011
Total Number Total Excluded Average Excluded
Year Tax Return Information of Returns ($B) ($)
Any Exclusion from Gross Income 145,524 19.9 136,782
2008 From Qualified Principal Residence 82,075 --
Applied to Reduce Basis 36,747 5.8 156,753
Any Exclusion from Gross Income 310,474 37.1 119,640
2009 From Qualified Principal Residence 168,691 --
Applied to Reduce Basis 62,494 8.8 141,098
Any Exclusion from Gross Income 423,574 50.4 118,975
2010 From Qualified Principal Residence 229,959 --
Applied to Reduce Basis 72,520 10.1 139,148
Any Exclusion from Gross Income 464,425 57.1 123,014
2011 From Qualified Principal Residence 242,853 --
Applied to Reduce Basis 95,658 12.9 135,058
Source: Statistics of Income Division, IRS, “Estimated Data Line Counts Individual Income Tax Returns” (various years).
Note: Number and amount of exclusions are based on tax return information from Form 982. Basis reductions include only those
applied to qualified principal residences.
his home. Thus, it would appear that principal reduction modifications than we expected.
147,195 taxpayers who experienced debt forgiveness This suggests that some taxpayers found
on their principal residence in 2011 also lost their Form 1099-C or Form 982 difficult to interpret, and
homes. A similar calculation for the entire 2008 mistakenly reported this information.
through 2011 period yields a total of
456,159 borrowers who filed under this provision In short, we do not know how much potential
from 2008 to 2011 and did not remain in their revenue could be collected if this Act were not
homes. This should be compared with the 1.2 million extended. A high upper bound estimate, had the Act
liquidations in 2011 alone and 4.5 million not been in effect in 2011, is $7.5 billion of income
liquidations during the 2008–11 period. The tax forgiven, but it is based on some extreme
Form 982 filings cover only principal residences in assumptions: that the 242,853 taxpayers in 2011 who
recourse states liquidated for less than the mortgage took a mortgage forgiveness exclusion each excluded
balance, but the numbers still look low, suggesting $123,014, the average exclusion for all debts (a total
underreporting. 11 of $29.9 billion), and that these taxpayers were
subject to a 25 percent tax rate. However, it is
Second, although the number of borrowers who reasonable to assume that the majority of these
claimed debt exclusions for a qualified principal taxpayers—who could not pay their mortgage and
residence looks too low, the number of these whose home was worth less than the mortgage—were
borrowers who applied the debt forgiveness to insolvent. With the number of principal reductions
reduce the basis in the home looks a bit high. The and liquidations likely to decline in coming years, the
use of principal reduction has been quite significant revenue loss is likely to be even lower if the Act is put
in 2012 and 2013, but it was lower in 2009, 2010, back into place.
and 2011. For example, for 2011, the OCC Mortgage
Metrics Report shows only 35,277 (or 6.2 percent) Consequences of Not Renewing/
of the modifications contained principal reductions. Renewing Later in the Year
The OCC Mortgage Metrics Report is gathered from
the largest depository institutions, and covers about Although the Mortgage Debt Relief Forgiveness Act
two-thirds of the market. Nonbank servicers may has expired, there is a reasonable chance that it will
well have done more principal reduction than their be renewed, and if this is done, it is likely to be
bank counterparts, but 95,658 represents more made retroactive to January 1, 2014. There is little
www.urban.org 5HOUSING FINANCE POLICY CENTER COMMENTARY • FEBRUARY 17, 2014
real opposition to renewal in Congress; it is one of a • Borrowers considering short sales may now
number of “tax extenders” (provisions of the tax think twice. 12 If the debt that is forgiven in a
code that are regularly renewed one or two years at short sale is taxable, some borrowers may hold
a time, with little opposition). These tax extenders off on a short sale because they cannot afford the
are often attached to another bill. However, tax bill, thus forcing an outcome that is worse for
congressional gridlock limits the number of bills to all concerned: foreclosure.
which the extenders can be attached, and in the face • Policymakers will now reassess how and when to
of upcoming budget negotiations, there may be provide for debt forgiveness. As mentioned,
opposition to the total amount of forgone revenue Director Watt will no doubt weigh this both in
from all extenders. And this uncertainty could well how quickly he tackles the question of principal
extend through a good part of 2014—Congress reduction as a modification tool for the GSEs,
could theoretically pass the extenders late in the and in his final determination whether the GSEs
year retroactive to the start of the year. One bit of should be permitted to provide it. Similarly,
good news: Incoming Senate Finance Committee those structuring future settlements will
Chair Ron Wyden stated recently that enacting tax reconsider whether to include relief that includes
extenders was his top priority in the near term. the forgiveness of debt.
Servicers currently decide whether to give the The bottom line is that letting this Act expire
borrower in distress a principal modification (which threatens the utility and prevalence of principal
is apt to have the highest probability of success) or reductions, an effective tool that has helped
to modify the interest rate and extend the term homeowners and the economy finally turn the
(which is less likely to be successful), based corner toward recovery. The debt overhang,
primarily on the results of an NPV test that particularly among those whose mortgage debt
determines which alternative is in the greatest exceeds the value of their home, is a lingering
economic interest of the owner of the loan. If the problem, slowing the recovery. Taxing efforts to
Act is not passed soon, servicers will likely have to help borrowers reduce that overhang where those
make borrowers aware of the possible tax liability efforts help borrowers, lenders, investors, and
that may accompany a principal reduction communities, simply makes no economic sense,
modification. Although this modification option is particularly given the marginal revenues it would
almost invariably better for the borrower, generate.
increasing their chance of success in the loan more
than would a rate decrease and term extension, the The consequences of a failure to extend the Act go
economics for borrowers become more complicated beyond compromising an effective modification tool
when tax law uncertainty is added. Providing a and undermining housing policy in the aftermath of
potential tax liability disclosure will increase the the crises. There is a “fairness” aspect to this as well.
modification timeline, slowing the relief to the With the expiration of this Act, borrowers in
borrower, and thus decrease the modification’s recourse states who have lost their home through
chances of success. The added uncertainty around short sales, deeds-in-lieu, or foreclosure are treated
what lenders can and should disclose will also make more harshly from a tax perspective than borrowers
many lenders less likely to offer principal reduction in nonrecourse states who have lost their home in a
as an option at all. similar manner. Borrowers in recourse states who
have lost their home are also treated more harshly
Indeed, the strongest effect of the current state of than borrowers (in all states) who sell their home
limbo may come from the impact it has on for a profit, and are able to exclude the profit from
borrowers, lenders, and even policymaker behavior income for tax purposes. These disparities seem
at the margins. both mean and counterproductive.
• Lenders who were inclined to scale up principal
reduction operations are now less likely to do so.
www.urban.org 6HOUSING FINANCE POLICY CENTER COMMENTARY • FEBRUARY 17, 2014
Endnotes 7 HAMP requires servicers to test for a modification
every borrower who goes delinquent. If the
1The Act was first passed in 2007 with an modification is NPV positive, the servicer is obliged
expiration date of 2009, but extended in the to offer it to the borrower. In making this
Emergency Economic Stabilization Act of 2008 determination, the servicer applies two different
through 2012. It was extended for an additional NPV tests. The first test is the standard HAMP
year (through the end of 2013) as part of the “fiscal priority queue or waterfall: The arrearages are
cliff” negotiations. capitalized, the interest rate is reduced to 2 percent,
the term is extended, and principal is deferred, in
2Nonrecourse mortgages do not allow the lender to that order, until the borrower’s payment reaches a
pursue the borrower to collect the balance 31 percent debt-to-income ratio (DTI). The second
remaining on the loan after a foreclosure, whereas NPV test is the PRA: The arrearages are capitalized,
recourse mortgages do. Whether the lender has principal is forgiven to 115 percent loan-to-value
recourse is governed by state law, and often ratio (LTV); the interest rate is then reduced, the
depends on the type of loan. It is important to term extended, and principal deferred, in that
realize that the exemption for nonrecourse loans order, until the borrower reaches 31 percent DTI.
applies only if the discharge of the nonrecourse loan The critical difference is that under PRA, principal
arises from a short sale, deed-in-lieu, or foreclosure, is forgiven, not deferred, and occurs higher in the
but generally not for a discharge that arises from a waterfall. Servicers are required to run both NPV
work-out or principal reduction. tests, but they are not obligated to offer a principal
reduction, even if it is the highest NPV alternative.
3Debt reduction as part of a loan modification is
The PRA test is designed to virtually eliminate
eligible for relief only if the discharge of the debt
moral hazard. Borrowers have no incentive to
was due to a decline in the value of the residence or
strategically default to receive principal reduction
to the borrower’s financial condition.
because they have no way of knowing, before
4Purchase mortgages and rate refinances (in which defaulting, whether their principal will be reduced
principal balance is not increased) qualify. The even if they qualify for a modification.
additional cash generated through cash-out 8In August 2010, the General Accounting Office
refinances qualifies if the cash was used to improve
(GAO), in their publication “Expanded Information
the home; if the cash-out amount was used for other
Reporting Could Help IRS Address Compliance
purposes, such as a vacation or to fund a child’s
Challenges with Forgiven Mortgage Debt,” GAO-10-
college education, that portion is not eligible for tax
997, made a number of very specific
relief. Debt forgiven on a home equity line of credit
recommendations to the IRS to improve both the
that was not used toward home improvements
quality of the data and the enforceability of the tax
would not qualify, nor would debt acquired in the
code. The GAO specifically raised a concern that
purchase of a second home or investor property.
because a taxpayer may have multiple debt
5When there is no recourse, the sale is deemed to discharges that are aggregated and totaled, it is
occur for the amount of the debt, so there is no unclear what amount of this is mortgage debt. The
forgiveness. GAO recommended that the IRS:
• Modify Form 982 to segregate the total amount
6The share of private label loans receiving principal of forgiven debt by exclusion type (this would
reductions grew from 1.2 percent in the first quarter separate out mortgage debt).
of 2010 to 25.4 percent in the third quarter of 2013;
the share of bank portfolio loans that received • Modify Form 1099-C to require lenders to
principal reductions grew from 11.4 percent to identify, in more useable form, the specific type
44.1 percent over the same period. of canceled debt.
The GAO also found that enforcement is difficult, as
it is currently not clear from Form 1099-C whether
www.urban.org 7HOUSING FINANCE POLICY CENTER COMMENTARY • FEBRUARY 17, 2014
the forgiven debt is for a principal residence, nor the sale price, but the taxable gain is reduced by
does the borrower explicitly report it on Form 982. $500,000 for couples and $250,000 for singles who
That is, a borrower could take an exclusion to which live in their home for two of the five years preceding
he is not entitled. The GAO recommended that the a sale. Most principal residence capital gains are
IRS: thus untaxed.
• Modify Form 982 and Form 1099-C so the filers 11Borrowers in difficulty whose homes were worth
disclose the address of the secured property for more than the mortgage should have been able to
which the debt is being forgiven. sell the house and pay the mortgage, and would not
have had mortgage debt forgiveness.
The IRS agreed to study these issues, but no action
has been taken. 12In a short sale, the lender accepts the sale price as
complete payment of the mortgage owed, even
9 The basis cannot be reduced below zero; if the
though the house is sold for less than the mortgage
taxpayer’s basis in the home was less than the debt
owed. Because the borrower maintains the home
forgiven, the basis, rather than the debt forgiven, is
until it is sold, short sales usually have a lower loss
reported.
severity than foreclosure. As a result, more and
10The practical impact of a reduction in the basis of more lenders turn to short sales first rather than
a home is minimal. Someone who sells a principal foreclosure, which is better for the borrower, the
residence pays the capital gains tax on the lender, and the community.
difference between the cost basis on the home and
Copyright © February 2014. The Urban Institute. All rights reserved. Permission is granted for reproduction of this file, with attribution to
the Urban Institute.
The Urban Institute is a nonprofit, nonpartisan policy research and educational organization that examines the social, economic, and
governance problems facing the nation. The views expressed are those of the authors and should not be attributed to the Urban Institute, its
trustees, or its funders.
The Housing Finance Policy Center’s (HFPC) mission is to produce analyses and ideas that promote sound public policy, efficient markets,
and access to economic opportunity in the area of housing finance.
We would like to thank The Citi Foundation and The John D. and Catherine T. MacArthur Foundation for providing generous support at the
leadership level to launch the Housing Finance Policy Center. Additional support was provided by the Ford Foundation and the Open Society
Foundations.
www.urban.org 8You can also read
