Underwater Homeowners Beware: Tax Break Set to Expire

November 9, 2012 — Leave a comment
On Dec. 31st, 2012 the Mortgage Forgiveness Debt Relief Act (MFDRA) will expire unless the lame-duck Congress renews it.  The act was signed into law five years ago, immediately after the housing bubble burst, in an effort to provide financial relief to impoverished homeowners by allowing them to short-sell their properties without having to pay taxes on the amount of forgiven debt.  For example, if you owe $400,000 on  your home and sell it for $300,000 you do not have to pay taxes on the $100,000 difference, which the IRS would traditionally count as income.  The IRS offers this provision for forgiven debt of up to $2 million from calendar years 2007 – 2012.  If the MFDRA is allowed to expire, any amount of forgiven debt on a short sale would be taxed again, placing a huge burden on the 24% of homeowners (11.3 M people) who are still underwater (owe more then their house is worth) and have a collective $692 billion in negative equity. It’s worth noting that young people are bearing the grunt of the burden; almost half of borrowers under age 40 are underwater.  Check out the breakdown from Zillow’s latest real estate report below:
The housing market has undoubtedly improved in the last half-decade, and all signs point to a continuance of that trend.  The  Fed recently announced a third round of quantitative easing, QE3,  where they will purchase $40 billion a month of mortgage backed securities for as many months as needed.  This action is intended to support the housing market and allow banks to cut interest rates modestly, which should allow more people to keep their home.  Moreover, Corelogic, an independent research firm, reports that home prices are rising in 19 to of 20 big cities and home prices increased by 5% on year over year basis in September, 2012 compared to September, 2011.  Still, the situation for those 11.3 million homeowners is unlikely to improve before the MFDRA expires.

It is still unclear whether or not an extension will be passed.  President Obama has publicly supported such a measure, but congress is not feeling very charitable right now (a 2-year extension would cost the treasury $2.7 billion) and an extension would have to be approved by both the House and Senate.  There has been bi-partisan support for an MFDRA renewal, but bringing it to the top of congress’ priorities is its biggest impediment.  This should be reason for underwater homeowners to worry, and may push them to sell their houses while they can still find some tax relief on a sale.  If an extension is not passed, they may have to wait a long time until the value of their property improves enough to account for the reinstated tax.  Of course, for most homeowners, the decision to move is not something that they can do anytime they like.  Even without the MFDRA, many homeowners find themselves stuck waiting for the value of their largest asset to improve to pre-crisis levels.
JDKatz, P.C. is a full-service law firm focused on tax law and estate planning. We are dedicated to minimizing your existing liability and risks while providing valuable tax planning to streamline your tax issues in the future. Please call us at 301-913-2948 to schedule an appointment to meet with one of our trusted attorneys.

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