How Does Foreclosure Affect My Taxes?
You may find yourself in a situation where you may no longer be able to afford your mortgage payment. It may be a lay-off, adjustable-rate mortgage, or divorce. Regardless of the cause, you may face foreclosure action on the lender’s behalf. What does this mean for your taxes, and what do you need to know?
When Foreclosure Happens
Understanding when the lender has the legal right to pursue foreclosure is crucial. Your lender isn’t going to foreclose on you after the first missed payment. You may receive a notice that you have fallen behind on your payments. Take action as quickly as possible to rectify the situation. If you miss three mortgage payments in a row, most lenders will begin to pursue the legal process known as foreclosure. It would help if you prepared accordingly. Paying your late mortgage payments is recommended, or you can renegotiate your loan with your lender. If your lender refuses to do so, your lender has the legal right to foreclose on you.
How It Impacts Your Taxes
How will foreclosure impact your taxes? This depends on how the process unfolds. Typically, the lender will seize your property and put it up for sale at an auction as quickly as possible. You are entitled to the excess if the lender gets enough money to pay off your mortgage balance. For example, a lender sells a home for $350,000. A homeowner owing $250,000 on their mortgage would be entitled to the excess $100,000. If this represents a capital gain on the sale of your house, you may still owe taxes on this money. Working with the tax professional to clarify how this works is crucial.
A Possible Short Sale
The lender facing the prospect of a short sale is also a possibility. Short sales happen when the lender does not receive enough money to pay off the debt balance. For example, if you still owe $400,000 and the lender can only obtain $350,000 for the house, the lender will probably opt to cancel the remainder of the balance, which is not uncommon in the foreclosure process, but you would still have to pay taxes on the canceled debt. In this case, the lender will cancel $50,000 in debt, and you may have to pay taxes.
Possible Exclusions To Note
You might be entitled to an exclusion. Until the end of 2020, the Mortgage Forgiveness Debt Relief Act was in play. This means that if the lender decides to discharge your debt and you took out your mortgage during a period impacted by this act, you might not need to pay taxes on the canceled debt. We advise you to talk about this with a tax professional.
Work With a Tax Professional
Whenever you are talking about taxes, rules and regulations are complicated. The stakes are high, so you must ensure accuracy, so working with an accountant is a good idea.
Furthermore, just because you are facing a foreclosure process doesn’t necessarily mean you are unable to sell your house. Even if your lender has notified you that you are in foreclosure, we can help you.
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