Mortgage Forgiveness Debt Relief Act of 2007

Foreclosure is probably one of the most devastating things that can happen to a couple or family. When most people purchase or build a home, they believe it's going to be their home forever or, at least, for many years. They take out a loan and even if their mortgage payments seem steep, they're positive they'll have no trouble paying it off because their home is the most important thing to them besides their family.

However, many times circumstances change. There could be a divorce, death of a family member, loss of job or illness to name a few. Suddenly, they can no longer make the payments and their home goes into foreclosure. In a way, they may be relieved about not having to make outrageous mortgage payments that you can no longer afford to make, which frees you to look for more affordable housing for you and your family. But, they've probably also had to sell your house for less than its worth and possibly less than you owe. This doesn't even begin to touch on how damaging a foreclosure can be to one's credit rating – for many years to come.

Today, foreclosures are at an all-time high. But homeowners are now being encouraged to work with their lenders before the delinquency reaches the foreclosure stage. They're encouraged to sell their home while they're still living in it, which might result in a 'short sale' – a transaction in which the bank accepts as full payment less than the borrower actually owes. For instance, an individual owes the bank $150,000 for their mortgage but the bank agrees to satisfy the mortgage if the homeowner pays $100,000, saving the homeowner $50,000. This is less costly to the lender because the home continues to be maintained, and many legal costs are eliminated as well. However, the homeowner would still have to pay taxes on the money they didn't pay the bank, in this instance, $50,000. But the sale would not be reported as a foreclosure, so it wouldn't hurt the borrower's credit nearly as much. At the end of the year, the homeowner would receive a 1099C stating that the forgiven amount was "unrealized income." The problem arose because the homeowner has already lost his home through a short sale. Where is he going to come up with the funds to pay taxes on that kind of money?

In December 2007, a new law, the Mortgage Forgiveness Debt Relief Act of 2007, was passed. This new legislation helps to alleviate some of the harsh effects of foreclosure and short sales from deeds in lieu of a foreclosure. The law waives the taxes that would be due for debts that were forgiven from 2007 through 2009. This law has made it possible for borrowers and lenders to work together to come to a settlement agreement amount or refinance the property to help each other without the homeowner getting bad credit and losing their home or the bank losing money.