Documents, Second Mortgages, Tax Reporting – How to Handle a Foreclosed Home for Tax Purposes
In our July 2009, Foreclosure and Short Sales, and October 2009, Business Foreclosures or Short Sales, issues of Tax News we addressed some of the questions we received related to a foreclosure. Three questions that deserve further explanations are:
- What documents will taxpayers get on foreclosed homes for tax filing purposes?
- What happens if there is a second or third mortgage?
- Are there two types of tax reporting - one for the capital gain on the house and the other for forgiveness of debt?
What documents will taxpayers get on foreclosed homes for tax filing purposes?
Depending on the facts and circumstances; a taxpayer can either receive one statement or multiple statements
Lenders are required to file informational returns with the IRS and provide to each borrower.
Form 1099A, Acquisition or Abandonment of Secured Property, is issued when a borrower abandons secured property, or when a lender acquires property in full or partial satisfaction of a debt and the property was used as security for the debt.
Form 1099C, Cancellation of Debt, is issued if the creditor abandons its right to collect a balance due from the debtor of $600 or more.
If both occur in the same calendar year, the creditor can file just Form 1099C.
What happens if there is a second or third mortgage?
If more than one person lends money secured by property and one lender forecloses or otherwise acquires an interest in the property and the sale or other acquisition terminates, reduces, or otherwise impairs the other lenders' security interests in the property, the other lenders must file Form 1099A for each of their loans. For example, if a first trust holder forecloses on a building, and the second trust holder knows or has reason to know of such foreclosure, the second trust holder must file Form 1099-A for the second trust, even though no part of the second trust was satisfied by the proceeds of the foreclosure sale.
If a debt is owned (or treated as owned for federal income tax purposes) by more than one creditor, each creditor that meets the requirement to file must issue a Form 1099-C if that creditor's part of the canceled debt is $600 or more.
Are there two types of tax reporting - one for the capital gain on the house and the other for forgiveness of debt?
Generally, if you have property that is used as security for a debt and that property is taken by the lender in full or partial satisfaction of the debt, you are treated as having sold the property. This may generate either a gain or a loss, and in some cases there may also be cancellation of debt (COD) income.
If the loan used to acquire the home is nonrecourse, then the lender’s only remedy is to repossess the property used as collateral. You will only have a deemed sale.
If the loan was recourse, then the lender(s) can pursue the full amount from the borrower (the loan document normally states they are personally liable for the full amount of the loan). In this case, you will have both a deemed sale and COD income.
In some cases a taxpayer may have both a nonrecourse loan (their first mortgage) and a recourse loan (their second mortgage).