I receive many calls from people facing the foreclosure of their home. They want to know whether they will remain liable after the foreclosure to their mortgage lender for any part of the mortgage debt. For a period of 90 days after the sheriffs sale, the mortgage lender has the option of filing a lawsuit against the borrower, if the amount received at the sale is insufficient to pay the mortgage in full. Generally, the smaller the amount owed, the less likely it is that the lender will sue. However, if the lender does decide to write off its loss, it may issue the borrower a Federal Form 1099C for the amount of the loss, which then would be considered as taxable income to the borrower. Congress has been exempting owner occupied home foreclosures from taxation on a year by year basis, generally at the end of the applicable year. So there is no guarantee that this practice will continue. Also, if you move out of the house substantially prior to the sale and the lender learns of that, it will consider the property to be non-owner occupied and issue the 1099C.
So how does the borrower protect herself from the sudden imposition of a high income tax bill? Filing Chapter 7 bankruptcy prior to the sheriffs sale will allow the discharge of the mortgage debt. Bankruptcy is one of the few ways to protect against the addition of forgiven debt to your income.
Another option is to attempt to sell the house in a short sale prior to the sheriffs sale. To the extent that the mortgage lender agrees to take less than the full amount due in a short sale, it will not report the difference as forgiven debt to the IRS. That is considered a sale for tax purposes, not a forgiven debt. It is critical that you request and receive a release from your short sale lender from any liability for the difference between the full loan balance and the amount that the lender receives from the sale.
You need an experienced bankruptcy attorney to explain your options. Contact me today to find out how I can help you get a fresh start.