Short sale did not fall off the fiscal cliff.

A combination of expiring tax cuts and across-the-board government spending cuts were scheduled to become effective Dec. 31, 2012.  Although the national deficit would have been significantly reduced by the sunset of these laws, the concern was that sharp tax hikes together with “entitlement program” spending cuts would push our country into another recession.

Controlling national debt clearly requires both increasing revenue (increase in tax) and spending cuts (decreasing expenses), there were certain benefits that were scheduled to expire that were clearly important for stimulating the economy.

The Mortgage Debt Relief Act became law on December 20, 2007.  It provided a mechanism for excluding cancellation of debt income from taxable income in certain real estate transactions.  It has been used by many consumers to shield themselves from an otherwise catastrophic tax event upon the close of a short sale.  Without the Mortgage Debt Relief Act, any debt forgiven as a part of short sale (or deed in lieu of foreclosure) would have been treated as income for tax purposes.

The Mortgage Debt Relief Act was scheduled to sunset Dec. 31, 2012.  However, on January 1, 2013, Congress passed the American Taxpayer Relief Act of 2012, which extended a number of the Bush Era tax cuts and, among other things, extended The Mortgage Debt Relief Act for another year.

The passage of the American Taxpayer Relief Act of 2012 is good news to realtors and consumers in general, but particularly realtors and consumers in the State of Hawaii.  We are one of the few states that consistently engages in recourse foreclosure (where you can be held liable for the difference between the mortgage balance and the auction price).  However, if you are not careful – short sale can result in a catastrophic tax event and/or a lawsuit after closing.  If you are considering short sale or other workout options, do your due diligence and get both legal advice and tax advice.  Note: the Mortgage Debt Relief Act does not apply to non-consumer mortgages.

DISCLAIMER: The above is intended for informational purposes only and should not be construed as either legal or tax advice.  For a free consultation, please contact us at 808-242-9350.  You can also reach me by emailing at

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