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Mortgage Debt Relief Act - Is it applicable in California?

Author: Jessica Bennet
Community Mentor
Ask Jessica
Posted on: 21st May, 2008 11:20am
The Mortgage Debt Forgiveness Tax Relief Act has been effective in California since mid 2008. It offers tax break on canceled debt or deficiency (in short sale or foreclosure).

Debt Relief Act - how it applies to short sale/foreclosure


If you're unable to afford the current mortgage payments, and it isn't possible to refinance with FHA Secure, then you may consider going for a short sale. A short sale is quite common in a declining market where the home sale price isn't enough to cover the outstanding balance on your mortgage. In such a situation, you have a personal liability to pay off the remaining balance on your loan.

Let's say, your lender accepts a short sale, and there's a combined mortgage (purchase loan and second mortgage) on your home. Now, the lender may not ask for the deficiency (difference between unpaid loan balance and price at which lender sells off your property) on the primary mortgage. This is due to the Anti-deficiency laws applicable to mortgages on a primary residence. But, such laws are not applicable in case of second mortgages. Therefore, you can avoid paying deficiency on the first but not on the second.

Now, if it is a refinance loan, the lender will ask for the deficiency if the short sale doesn't yield much to cover the combined debt (purchase loan and refinance mortgage). In case you fail to pay the deficiency, the unpaid amount is considered as income and the IRS requires you to pay federal income tax on the unpaid debt unless you don't qualify for mortgage tax relief under the Federal Mortgage Debt Relief Act (Mortgage Forgiveness Debt Relief Act of 2007). However, the Mortgage Debt Forgiveness Tax Relief Act can help you with tax relief only under certain conditions.

The Mortgage Debt Relief Act applies even if your property is foreclosed and there's a deficiency amount left to be paid. However, if you opt for a deed-in-lieu, the lender may not ask for a deficiency in most cases, as is the general rule.

Earlier the Mortgage Debt Relief Act applied to all states except California. However, it is now applicable to California also with some difference in the rules as compared to the Federal Law.

California Debt Relief Act and the Federal law - how they differ



California law applies to qualified debt forgiven in 2007 and 2008. It limits:
  1. Amount of qualified principal residence indebtedness up to $800,000 for married/registered domestic partners filing jointly or as single, head of family or as widow/widower.

  2. The amount of principal residence indebtedness up to $400,000 for married/registered domestic partners filing separately.

The debt relief is limited to:
  1. $250,000 for married/registered domestic partners filing taxes jointly, single, head of family or as widow or widower.

  2. $125,000 for married/registered domestic partners filing their tax returns separately.

Federal Mortgage Debt Relief Act applies to qualified debt forgiven right from 2007 to 2012. Recently Mortgage Forgiveness Debt Relief Act was extended through 2013 so as to avoid the serious consequences of fiscal cliff. It limits:
  1. Amount of qualified principal residence indebtedness up to $2,000,000 for married/registered domestic partners filing jointly or as single, head of family or as widow/widower.
  2. The amount of principal residence indebtedness up to $1,000,000 for married/registered domestic partners filing separately.

The Federal law does not limit the debt relief amount. It only limits the amount of indebtedness used to find out the debt relief amount.



For further information, you may refer to the following resources:
Posted on: 21st May, 2008 11:20 am
Has this Act taken affect in California yet?

Thanks
it is federal legislation so i assume it has taken affect. it was passed in august. it just protects against the forgiven debt from being taxed as income. "fha secure" may also be what you are looking for?

"fhasecure expands the fha's ability to offer refinancing by giving it the flexibility to work with homeowners who have good credit histories but cannot afford their current payments. by the end of 2008, the fha expects this program to help more than 300,000 families refinance their homes."
Posted on: 21st May, 2008 12:17 pm
thanks. On another note...I have a first and 2nd on my home (primary res. no other property owned) and both mortgages we used to purchase my home, they have never been refi'd, they are both with the same lender. I bought the home in 6/2006. Are both of my loans non-recourse loans or could the 2nd mortage get a DJ against me for the loan amount on the 2nd?
Posted on: 21st May, 2008 12:40 pm
My education tells me they would both only be secured by your home but that is a really good question. I am nearly sure they are both non-recourse loans but could it be governed differently in California?

I don;t think so but I asked Cliff...
Posted on: 21st May, 2008 01:21 pm
Thanks! I look forward to Cliff's answer.

Best,
*sue
Posted on: 21st May, 2008 01:30 pm
What are you trying to accomplish?
Posted on: 21st May, 2008 01:32 pm
Posted on: 21st May, 2008 01:40 pm
With the DIL the second mortgage could possibly still be attached. So I would say the Short Sale will be a much better option for you. When you work with someone who really knows how to do a short sale they will take care of the second. For many reasons, it is extremely important that you work with someone that really knows the short sale process well.
Posted on: 21st May, 2008 02:08 pm
Thanks!
Posted on: 21st May, 2008 02:43 pm
Hi suen.

The Mortgage Debt Relief Act 2007 or Mortgage forgiveness Act does not apply in California. So if your debt is forgiven then you will have to pay tax on it as it will be considered as your income.

BTW know more about Tax Break for Mortgage Debt Forgiveness at http://www.mortgagefit.com/tax/debtforgiveness-reliefact.html

Best of luck,
Larry
Posted on: 17th Jun, 2008 05:31 am
Thanks Larry. I spoke to FTB the day after I asked this question. So the Mortgage Debt Relief Act 2007 only applies to Federal Taxes but not State, as you say. So, there would be no Fed taxes but there would be State. That said, I spoke to a BK Atty who told me that since both of my loans are purchase money loans, which makes them non-recourse loans, I wouldn't be liable for the taxes either. Is that your understanding as well?

Thanks,
*sue
Posted on: 17th Jun, 2008 08:16 am
Hi Suen,

Nice to have you back here. But did you get logged out while posting?

I think there's a slight confusion here. It is true that the tax on unpaid debt is a kind of federal tax and not state tax. And in case of a purchase loan, one doesn't need to pay the deficiency if he's in California (anti-deficiency law). But just because the Mortgage Debt Relief doesn't apply here, one has to pay tax on any unpaid deficiency amount.

I hope I could clarify it. If you have further doubts, please don't hesitate to discuss with us here.

Regards,

Jessica
Posted on: 18th Jun, 2008 05:19 am
I am thinking of walking away from my home. I have a first and second. I intend on paying the second. I have another home that is co tenants, that I will moving back too. Can they come after me for that home?
Posted on: 25th Oct, 2008 11:18 pm
hi azngirly!

it is good that you will be paying off the second mortgage. but if you do not pay the first mortgage, the first lender will foreclose the property. the first lender may also place liens on your other properties if his debts are not recovered. there are chances that the lender may garnish your wages as well.

thanks.
Posted on: 27th Oct, 2008 02:26 am
Will a short sale cover both first and second mortgage?
Posted on: 26th Dec, 2008 08:23 pm
Hi Washington state

As far as I know, a short sale will not cover both the first and the second mortgage. The first will try to satisfy his dues first. If there is a deficient amount from the sale, then you need to pay it to the first lender.

Then comes the second lender. He will then try to recover his dues. If you cannot pay him the dues, he will then charge off the loan to a collection agency who will in turn collect the dues from you.

Thanks.
Posted on: 29th Dec, 2008 12:30 am
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