The Mortgage Forgiveness Debt Relief Act of 2007

In a previous post, I mentioned the change in the law that allows people to have their debt reduced without that reduction being considered a taxable gain. Here is a link to the IRS website with details:

http://www.irs.gov/newsroom/article/0,,id=174034,00.html

Here are some details:

The Mortgage Forgiveness Debt Relief Act of 2007 generally allows taxpayers to exclude income from the discharge of debt on their principal residence. Debt reduced through mortgage restructuring, as well as mortgage debt forgiven in connection with a foreclosure, qualify for this relief.

This provision applies to debt forgiven in 2007, 2008 or 2009. Up to $2 million of forgiven debt is eligible for this exclusion ($1 million if married filing separately). The exclusion doesn’t apply if the discharge is due to services performed for the lender or any other reason not directly related to a decline in the home’s value or the taxpayer’s financial condition.

The amount excluded reduces the taxpayer’s cost basis in the home.

This entry on the IRS website is only from Feb04, 2008. A Q&A fleshes out some of the details, but with the caveat that the examples given predate the new law.

My favorite part is that it applies for up to $2 million in forgiven debt. If somebody is having $2 million forgiven, how big was the total mortgage and what did the house cost? Even if a home fell by 20% in value, and the buyer got a zero down mortgage, then to have $2 million forgiven, the house cost $10 million (and if the home fell by only 10%, then it would have to cost $20 million, which will buy you something pretty nice, even in LA.) It seems that somebody dropping $10 million or $20 million on a house could have the documents perused by an attorney and an accountant to make sure it's a good deal. But I guess Congress needs to think about it's real constituency, the filthy rich, when it makes these laws.

I will try to stay on top of this for you.