There is a law that will run out at the end of the year that should be extended.
The full name of the law is the Mortgage Forgiveness Debt Relief Act. It was passed in late 2007 when the sub prime crisis hit, but long before the Wall Street Meltdown, the massive recession, and the real estate collapse that has decimated 25% of local property values and more in other parts of the country. The law's purpose was simple: It was designed to counteract the practice of mortgage lenders who issued a 1099 to borrowers who sold their homes via a short sale by exempting owner occupants from income tax liability on the discharged debt.
It is a good law no matter what side of the aisle you sit. It was passed with bipartisan support.
The idea of regarding forgiven mortgage debt as taxable income is dubious to begin with, but when you consider that our country abhors even taxing on the capital gain on a primary residence, it starts to seem virtually hostile. Discharged debt in a short sale is money a person never saw. They never handled it. And in the cases when the people were only doing what they thought was right to begin with, namely paying the bloated prices at the peak on the advice of their lender and agent that they were doing the right thing, you begin to understand the backlash.
There are neighborhoods all over Westchester that have been affected by the real estate downturn. The anathema of any neighborhood is a foreclosure, because it knocks the values down more than any other possible event. A vacant home dumped by an ambivalent lender at fire sale prices in your neighborhood hurts your values, especially if it occurs more than once. Short sales have been recognized as not just a way of helping a specific homeowner avoid a foreclosure, but as best alternative to distress property sales (that is, a bank owned foreclosure) for the entire surrounding homeowners as well.
When your neighbor sells in a short sale, you avoid a vacant home.
You avoid knee high grass that some preservation company sloppily cuts once a month. No swimming pools with green scum.
You avoid those stickers in the window and the trashed out dumpster in the driveway when the bank finally starts paying attention to their repossessed property.
Lastly, you avoid a sale at a far lower dollar amount than the neighborhood can take to sustain values.
If underwater borrowers elect to deed their house back to the bank or hunker down until foreclosure instead of a short sale to avoid a massive tax bill, you'll see more distress. The recovery will also be hindered, because instead of seeing former short sellers return to the good graces of society as we are starting to see now, we'll only see a sub society of people hiding behind rented curtains from the IRS.
The law does not protect people who refinanced as if their home were a big ATM. It only applies to purchase mortgages. It is scheduled to run out on December 31, 2012. We will not be out of the woods by that time, and failure to extend the law will result in fewer short sales, more bank owned foreclosures, and more people living off the social grid. 28 million homeowners across the country are still upside down on their mortgages. Many will eschew a short sale out of fear of a ruinous tax bill if the law runs out.
Make your choice. The folks down the street can sell their house with dignity in a short sale and move on their own terms, or you can have a vacant foreclosure. Taxing discharged debt on a short sale is ging to have far reaching consequences if the law is not extended.