No More CA State Tax on Forgiven Debt from Short Sales
The State of California just passed a new bill that will help ease the pain on homeowners who short sale their homes. Up until April 12th, if you did a short sale on your home, you were liable for paying state taxes on the difference between what you owed the bank and the net payoff the bank received from the short sale. This is known as forgiven debt. Thanks to Senate Bill 401, you may now be able to avoid paying both federal and state taxes on this forgiven debt (The Federal Government passed The Mortgage Debt Relif Act of 2007 which had a similar effect for federal taxes on forgiven debt).
This is GREAT NEWS for those considering a short sale of their home.
The California Association of Realtors states that:
“Distressed homeowners no longer have to pay California state income tax on debt forgiven in a short sale, foreclosure, or loan modification. Enacted into law yesterday, Senate Bill 401 generally aligns California’s tax treatment of mortgage debt relief income with federal law. For debt forgiven on a loan secured by a “qualified principal residence,” borrowers will now be exempt from both federal and state income tax consequences. The existing federal exemption is for indebtedness up to $2 million, whereas the new California exemption is for indebtedness up to $800,000 and forgiven debt up to $500,000.
“Qualified principal residence” indebtedness is defined as debt incurred in acquiring, constructing, or substantially improving a principal residence. It includes both first and second trust deeds. It also includes a refinance loan to the extent the funds were used to payoff a previous loan that would have qualified.
The tax breaks apply to debts discharged from 2009 through 2012. Californians who have already filed their 2009 tax returns may claim the exemption by filing a Form 540X amendment.
Taxpayers who do not qualify for the above exemptions (e.g., second home or rental property) may nevertheless be exempt under other provisions. Most notably, taxpayers who are bankrupt are exempt from debt relief income tax. Also, taxpayers who are insolvent are exempt from debt relief income tax to the extent their current liabilities exceed current assets.
For more information about mortgage forgiveness tax consequences, go to California Franchise Tax Board’s Mortgage Forgiveness Debt Relief Extended webpage and the Internal Revenue Service’s Mortgage Forgiveness Debt Relief Act and Debt Cancellation webpage. The full text of Senate Bill 401 is available at www.leginfo.ca.gov.”
To find out more about short sales and other options for avoiding foreclosure, visit the link below: