Kelly Bullis
Thank you, Federal Reserve! Real Estate values have peaked and are now coming back a bit from their highs. Some professionals are estimating a 10% value drop.
If you are sitting on some real estate with a mortgage and that mortgage is quite a bit larger than the current value, and you MUST get out from under that mortgage for some reason, one option is called a “short sale.”
A short sale is a way to get out of that upside down mortgage without going through foreclosure. It results when you work with the lender and they are willing to allow you to sell the real estate and they will accept 100% of the proceeds from that sale as FULL satisfaction for the outstanding mortgage, writing off the remaining amount left unpaid.
Lenders do such an arrangement when it is obvious that the property is worth significantly less than the mortgage, and the borrower is financially unable to keep up the mortgage payments due to job loss, health issues, death, or other hardship circumstances. The lenders have discovered that they will usually realize more proceeds sooner when the borrower sells the property, than foreclosing and selling at auction much later, in the meantime, not having access to the funds.
It is important that the borrower submits an application to the lender, along with an explanation of the hardship causing the need to do a short sale. (FYI, real estate values going down is not considered a “hardship.”)
A short sale will impact the borrower’s credit rating, but not anywhere near as bad as a foreclosure would. Short sales usually drop off your credit report in about 2-3 years. (Foreclosures are usually on for up to 10 years.)
Typically, a short sale results in receiving forgiveness of part of the mortgage. Under current tax law, that is usually considered taxable income. There is an exception to the taxability. If it is your principal residence, you have until Jan. 1, 2026, to close the short sale and pay zero tax on forgiveness of debt income up to a maximum of $750,000. The mortgage must have been incurred in the purchase or improvement of the home. (Any cash-out refinance debt that ends up being forgiven is not excluded from taxable income.)
If the short sale is on property that is not a personal residence, there is still a chance that the forgiveness of debt income would be non-taxable. It’s called the insolvency exclusion. That means that all the taxpayers’ assets (including pension plans and retirement accounts) are less than all their liabilities. There are some complexities to how much is not taxable and much of it involves determining the type of debt that is being forgiven. (Recourse versus non-recourse debt… a whole different and somewhat complex topic.)
Have you heard? Matt 18:27 says, “And out of pity for him, the master of that servant released him and forgave him the debt.”
Kelly Bullis is a Certified Public Accountant in Carson City. Contact him at 882-4459. On the web at BullisAndCo.com. Also on Facebook.