California State Tax

[Jumbo101]

Thought we needed thread on tracking this issue. If anyone can contribute, please do. For those going into foreclosure this year you might get hit with a State Tax bill. If anyone gets info from a cpa while doing taxes please post what they say.

Mortgage Forgiveness Debt Relief Law

[AmericanNightmare]

According to this article...if the foreclosure results in a loss there is no tax on the difference.

If the foreclosure results in a loss, the loss may not be taken since it resulted from the sale of a principal residence.

Foreclosures and the next wave: taxes due on canceled debt

[J2911]

Yet another bill was just introduced to extend the time frame of SB 1055 to January 2012. The bill was introduce by Niello. It is AB 111. You can track it by going to Search Bills
and entering the bill number. Since this one actually matches the IRS time frame, hopefully it will be the last one..

[swhite005hb]

I talked with a tax attorney and my tax accountant.

The tax attorney said that we could potentially see a tax bill from California; however, he wasn't completely sure (waste of $250). The tax accountant said we wouldn't see a tax bill.

We basically used a 80/20 loan for purchase and did not refinance. Because the loans were purchase money, we would not be liable for the loan or any taxes in the event of a foreclosure.

I'm not sure if that applies to other situations.

[pjd123]

Hi all,

I just started a post titled "Involvency - lets start talking about it!". Im hoping there will be some responses there too.... I will try and post info there as I find it. Taxes are confusing because we're all in different brackets, deductions, etc..... It feels a little like we're in 'uncharted territory'.

pjd123

[Jumbo101]

nice j2911, I will start tracking and make some calls. Also have Tax man next week so will see what he say's. The best for all of us would be bill matching the federal to 2012.

[Jumbo101]

COMM. LOCATION : ASM REVENUE AND TAXATION
HEARING DATE : 03/16/2009

THis bill is scheduled for hearing in 2 weeks


AUTHOR(S) : Niello (Coauthors: DeVore and Jeffries) (Coauthors:
Senators Cox, Huff, and Runner).

[Jumbo101]

Looks like this had been pushed to April.

CURRENT BILL STATUS


MEASURE : A.B. No. 111
AUTHOR(S) : Niello (Principal coauthor: Galgiani) (Coauthors:
DeVore, Harkey, Jeffries, and Silva) (Coauthors:
Senators Cox, Denham, DeSaulnier, Huff, and Runner).
TOPIC : Taxation: cancellation of indebtedness: mortgage debt
forgiveness.
HOUSE LOCATION : ASM
+LAST AMENDED DATE : 03/05/2009


TYPE OF BILL :
Active
Non-Urgency
Non-Appropriations
Majority Vote Required
Non-State-Mandated Local Program
Fiscal
Tax Levy

LAST HIST. ACT. DATE: 03/09/2009
LAST HIST. ACTION : Re-referred to Com. on REV. & TAX.
COMM. LOCATION : ASM REVENUE AND TAXATION
HEARING DATE : 04/13/2009

TITLE : An act to amend Section 17144.5 of the Revenue and
Taxation Code, relating to taxation, to take effect
immediately, tax levy.

[Jumbo101]

Also they are changing the language, it looks like they might visit this every year? why the change I wonder.

b) Section 108(a)(1)(E) of the Internal Revenue Code, as added by
Section 2 of the Mortgage Forgiveness Debt Relief Act of 2007
(Public Law 110-142), is modified by substituting the phrase "January
1, 2012" for "January 1, 2010" contained therein.

[sharona]

I saw my tax accountant today and he has no doubt that California will extend the law.

I hope he is right...

Sharona

[JesseTNC]

If CA extends the law, most of us will be in good shape. Hopefully they'll do it even if the state goes bankrupt in a couple months.

Regardless, I'm still trying to make heads or tails of whether or not there are any tax implications from forgiveness of non-recourse debt. Most sources say that in the foreclosure of non-recourse debt that "income" is not taxable. Everywhere except the CA Franchise Tax Board website (emphasis added).

In California, purchase money mortgages, which are mortgages where the borrowed funds are used to purchase the house, are generally treated as non-recourse debt. If the bank forecloses on a non-recourse mortgage, then the homeowner is treated as having sold the home for the amount of the outstanding debt. The difference between the outstanding debt and the homeowner's adjusted basis in the house is considered a gain or loss on the sale of the home. If the home is the taxpayer's principal residence, where they have lived for at least two of the past five years, the gain may be eligible for the gain exclusion on the sale of a principal residence. If the foreclosure results in a loss, the loss may not be taken since it resulted from the sale of a principal residence.

If the mortgage is recourse, such as a non-purchase money mortgage or a refinanced mortgage, any foreclosure may result in a gain on the sale of the house, and/or cancellation of debt income. The difference between the fair market value of the house and the homeowner's adjusted basis will result in a gain or loss on the sale of the home. To the extent the outstanding debt exceeds the fair market value of the house, the amount is treated as cancellation of debt income. Any gain on the portion treated as the sale of a personal residence may be eligible for the exclusion on the sale of a principal residence; however, as discussed above, the loss may not be taken on the sale. The portion that is treated as cancellation of debt income is taxed as ordinary income - subject to ordinary income tax rates. Your clients with canceled or forgiven mortgage debts may receive a Form 1099-C from the lender and will be expected to pay federal and state tax on the canceled amounts, at the ordinary income tax rate.

For example, if the homeowner has a non-recourse mortgage with an outstanding balance of $250,000, and has an adjusted basis of $100,000, the house has a fair market value of $200,000. If the homeowner's lender foreclosed on the mortgage, the homeowner would have taxable gain of $150,000 ($250,000 less $100,000). If the mortgage had been recourse, the homeowner would have gain on the sale of the home of $100,000 ($200,000 less $100,000), and cancellation of debt income of $50,000 ($250,000 less $200,000).

This sounds to me as though there would still potentially be capital gains even if there is no "debt forgiveness income" and even if the FMV is less than the outstanding mortgage debt. Based on their examples, neither "sale" would cover the balance of the loan (loan balance of $250,000, FMV of $200,000), but it would still incur a taxable gain for the homeowner (unpaid balance minus adjusted basis=capital gain). But the only way the homeowner could actually claim a loss for tax purposes is if the adjusted basis were higher than either the FMV or the unpaid balance (maybe the homeowner put $300k worth of improvements in the property? I dunno).

Are there any tax professionals lurking out there who can clarify this?

[JesseTNC]

After some research on the intertubes I think the California tax issue is becoming a bit clearer. What it boils down to (as I understand) is that foreclosure of a non-recourse loan does not result in "cancellation of debt income." However, it can result in capital gains income, and this is taxable.

Notice that the quote I posted from the FTB site only says in the case of non-recourse loans "the homeowner would have taxable gain of $150,000." It doesn't say "cancellation of debt income" which is the language they use in the recourse example.

The good news is that we can exclude up to $250,000 in capital gains on sale of a primary residence (actually I think it's $250k for singles, $500k for married filing jointly).

I'm not sure if capital gains resulting from foreclosure are covered by MFDRA07*, either. I think MFDRA07 is primarily meant to help folks in a recourse loan foreclosure situation.

Clearly everyone's situation is going to be a little different from everyone else's - the details I posted are relevant to my particular situation, but there may be different criteria that apply to your situation. I still plan on talking to my accountant to confirm this and so should anyone else on this board who has related questions. Hopefully this will at least help folks understand the tax issue a little better.

*Mortgage Forgiveness Debt Relief Act of 2007

[J2911]

Thanks for the update. Luckily our two loans total $490K, so in the event one of the bills does not pass, we would be able to use the $500K exclusion, since we've been here for over three years. I work at FTB and we've been watching the bills closely.
If one of the two doesn't pass, I expect an increase in bankruptcy filings in CA. The only reason for not passing it of course is the potential loss in revenue to the state...time will tell.

In the mean time I hope everyone who will no longer have the tax benefits deducting interest, taxes, etc. is planning accordingly and adjusting their fed/state withholding to reflect a standard deduction vs itimizing. I stopped paying the mortgage in Dec, so no tax,interest to write-off for this year. The difference in our fed tax due for this year will be almost $12000. I changed my status to single with 0 exemptions, and my monthly take home dropped a good $600. Ouch!
Anyway, just be aware...

[pcuser123]

Please if someone possible can explain the 500k exclusion??? I am, so nervous that i will be having to pay state tax on cancelled debt, this is the firs time I heard of a way out if those bills don't pass. I paid 430 k for home, probably will be going back to the bank at 160 k, lets say 1099-c will come to me of 270 k, what will happen??? anybody???

[pjd123]

This is just my understanding, not advice. You will get a 1099 for the $270k that is counted as income....BUT, if you have a good tax person (get a REAL professional, someone that specializes in foreclosure and capitol gains taxes), you will only have to pay taxes on it IF you have traceable assets, like other properties, 401k's etc. IF you really don't have any means of paying the income tax, you will be insolvent (you won't pay anything) because you don't have anything for the IRS to take. If you DO have assets, they can take them for payment. Again, just my opinion. Good luck!

[JesseTNC]

First off, please, please, please talk to a tax professional to verify anything you read here. That being said, here's my understanding:

IF your loans are "non-recourse" and the bank forecloses, then you won't have any "cancellation of debt" income on which to be taxed. In California, mortgages secured for primary residence are usually non-recourse (there are always exceptions, which is why you need to talk to a professional to determine exactly what your mortgage is - refinancing might change it, for instance). HOWEVER, even if you have no "cancellation of debt" income, you can still get hit for capital gains, which CAN be taxed, but the government (state and fed) lets you write off up to 500k - and they let you do this even before the whole mortgage crisis BS, so this isn't contingent on any new legislation or anything.

If you don't manage to miss the taxes based on the above criteria, then it's still possible to avoid them if you're insolvent (i.e. your debts are higher than your assets). But again, you need a tax professional to tell you this.

I'm not sure what happens in the case of a short-sale, however, since that situation does not apply to me, but I believe the tax implications are pretty similar to a foreclosure.

[shaung]

A lotta great info here thats guys!!!!