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Expiration of mortgage-forgiveness tax break triggers fears for distressed homeowners

This house in New Port Richey sat on the market for 37 months before the lender finally accepted a short-sale offer. With the expiration of the mortgage forgiveness tax break, a short sale of $100,000 less than the homeowner’s mortgage debt could, in a 25 percent tax bracket, mean a $25,000 surprise in taxes.
This house in New Port Richey sat on the market for 37 months before the lender finally accepted a short-sale offer. With the expiration of the mortgage forgiveness tax break, a short sale of $100,000 less than the homeowner’s mortgage debt could, in a 25 percent tax bracket, mean a $25,000 surprise in taxes.
Published Jan. 15, 2014

It's deja vu all over again for struggling Florida homeowners: The massive tax break that saved them tens of thousands of dollars has once again expired.

Underwater homeowners whose lenders let them sell their home for less than they owed have not had to pay taxes on that debt thanks to a law passed shortly after the housing bubble burst.

The Mortgage Forgiveness Debt Relief Act has been extended twice since 2007, including last year. But its expiration Dec. 31 could mean a rude awakening for homeowners come tax time.

Florida houses more than 1 million of the 6 million underwater mortgages nationwide. Even with rising home prices, about 30 percent of Tampa Bay's 600,000 outstanding loans remain underwater.

Those homeowners, many of whom bought at inflated prices during the housing boom, could ask the bank for a short sale that would let them move and dodge their debt.

But even if the bank forgave the debt, they would still be responsible for paying taxes on what is effectively an increase in their income. A short sale of $100,000 less than the homeowner's mortgage debt could, in a 25 percent tax bracket, mean a $25,000 surprise in taxes.

"These are clients with true hardships who still don't have jobs, still aren't able to find work," said Beth Cromwell, a short-sale processor for Hillsborough Title. "They're running out of options."

And it's not just short sellers. Foreclosed homeowners would owe taxes on what they failed to pay on their mortgage. Even homeowners offered mortgage help, like loan modifications or principal forgiveness, would be on the hook for taxes on what was cut.

Lawmakers could discuss an extension this month alongside dozens of other expired tax breaks. Pending bills now in Congress would extend the tax break through 2015.

Realtors short-sold 6,700 Tampa Bay homes, townhomes and condos last year, listing data show, and more than 1,500 are now listed for short sale.

Up to $2 million of a homeowner's forgiven debt qualifies for the tax break. The extension last year saved taxpayers across the country $1.3 billion, federal data show.

Housing advocates said the expired tax break will hurt those least able to afford more in taxes. Agents for some distressed homeowners attempted to rush through short sales last year to dodge the "phantom income" tax bill.

Many distressed homeowners can dodge the mortgage debt taxes if they prove to the IRS they are insolvent, owing more in debts than what they own in assets. That can be a saving grace for short sellers today who are in deep financial trouble.

"Most people who are doing (short sales) now aren't the strategic defaulters," said Keller Williams agent Steve Capen. "They have true hardships, and they usually will be insolvent at the time of closing."

Florida Attorney General Pam Bondi and 41 other attorneys general last month called on lawmakers to extend the relief, saying that, even with improvements to home prices and equity, "we are still not where we need to be."

"This relief is crucial to both the homeowners struggling to regain their financial footing and to the battered housing market whose recovery is slow and still uncertain," they wrote.

Contact Drew Harwell at (727) 893-8252 or dharwell@tampabay.com.

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