Tax News: CA Finally Clears up the Confusion and Gives Relief for Short Sales

 In Tax News

The Mortgage Forgiveness Debt Relief Act originally enacted by the IRS gave taxpayers relief on short sales.  Without this relief, when taxpayers had a short sale they could be responsible for tax on the forgiven debt as it was considered taxable income reported on a Form 1099.  However, under certain conditions and with limitations, taxpayers could exclude the forgiven debt on a short sale so that it would not be taxed as income.  Through 2012, California conformed to this exemption but initially did not renew it for the 2013 tax year.

When 2013 tax returns started getting prepared this year, taxpayers were surprised when their short sale was resulting in large income amounts on the California tax return.  Many taxpayers had assumed the extension of the federal provision would also apply to California.  With taxpayers not able to afford the tax on this unsuspected income, tax professionals scrambled for a resolution.  There was a letter from Senator Barbara Boxer, a Board of Equalization statement on the matter, an IRS response to the Boxer letter, and a long discussion of recourse vs. nonrecourse debt.  However, on July 25, 2014, California finally ended the discussion and speculation and extended the provision to apply retroactively to the period of January 1, 2013 through December 31, 2013.  Taxpayers who have already filed their 2013 return can file an amended return to claim the exemption and have to write “Mortgage Debt Relief” in red at the top of the Form 540X.  Taxpayers on extension who have not yet filed, can claim the exemption using normal procedures including attaching the federal tax return and Form 982.  As for taxpayers with short sales in 2014, we may be having this discussion again next year so it is important to be aware of the tax consequences of a short sale.

Buying and selling property as well as dealing with debt can have many different tax implications.  Before undertaking a major transaction taxpayers should always consult a tax professional to make sure the finances match the intended goals.  If you have questions about selling a home, cancellation of debt income or a short sale, contact us at Hone Maxwell LLP.  As always,  you can follow us on twitter @HMLLPTax or facebook at www.facebook.com/HoneMaxwellLLP for more tax tips and the latest updates on tax news

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