No More California State Tax On Forgiven Debt

Finally, after months political wrangling, California’s distressed homeowners will have one less thing to worry about. The state finally passed Senate Bill 401, which generally aligns California’s tax treatment of mortgage debt relief income with federal law. It comes none too soon with today being tax day.

In short, banks will still issue 1099s for the forgiven debt in a short sale, loan modification or foreclosure but for debt forgiven on a loan secured by a “qualified principal residence,” borrowers will now be exempt from both federal and state income tax consequences.  The existing federal exemption is for indebtedness up to $2 million, whereas the new California exemption is for indebtedness up to $800,000 and forgiven debt up to $500,000.

The tax breaks apply to debts discharged from 2009 through 2012.  Those eager beavers who already filed 2009 tax returns may claim the exemption by filing a Form 540X amendment.

Taxpayers who do not qualify for the above exemptions (e.g., second home or rental property) may nevertheless be exempt under other provisions.  Most notably, taxpayers who are bankrupt are exempt from debt relief income tax.  Also, taxpayers who are insolvent are exempt from debt relief income tax to the extent their current liabilities exceed current assets.

For more information about mortgage forgiveness tax consequences, go to California Franchise Tax Board’s Mortgage Forgiveness Debt Relief extended webpage and the Internal Revenue Service’s Mortgage Forgiveness Debt Relief Act and Debt Cancellation webpage.  For those who want to check out all of the nitty-gritty then the full text of Senate Bill 401 is available at leginfo.ca.gov.

Happy tax day!

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2 Comments

Filed under California, Loan Modifications, Tax Credits, Web Sites

2 responses to “No More California State Tax On Forgiven Debt

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  2. Pingback: Could Short Sales End If Mortgage Forgiveness Debt Relief Act of 2007 Is Not Renewed? | Resource Blog

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