short sale, foreclosure or bankruptcy? - need advise

[ultimate4799]

All,
I asked this as well at CA attorney forum and I'm hoping I can get an advise from our attorneys here at loansafe. Below is a quick background of my status :

- bought home for $700k(80/20 financing) in 2005 at CA. Home built in 2001.
- refied on early 2007 and owed $640k(Wells Fargo) and $120k(SLS) which makes both recourse
- Got NOD mid of June 2009 from Wells Fargo
- House valued at $474k only per zillow

A realtor I know told me short sale will help me avoid foreclosure. Concerns I have though is house(build in 2005-2006 and bigger size than mine) in my area is either in foreclosure or short sale listed only at $400k.

Now, my questions are the following:

1.) If I go thru short sale route, will either of my lenders seek deficiency judgment on me since $400k is $240k short off the 1st loan(WFB)? I worry I need to deal with 2 DJ in next few years. Please help on here.

2.) Is foreclosure better option since after the 1st lender(WFB) foreclosed on property, it can no longer seek deficiency judgement on me? Also, what should be a good tactic on 2nd(SLS) to negotiate for settlement for less?

3.) Based on what I read online, since ch7 BK will not be an option for me due to salary limitation. But if I do have a credit card debt of $45k and auto loan of $20k, will that help me qualify ch7? I worry only ch13 will qualify me but I appreciate your opinion.

I appreciate any inputs specially from our good friends / attorneys.

[faith]

Welcome to this forum.

I am not attorney and am not in a position to give legal advice. But what I’ll share with you is what I found out when I was researching about Short Sale procedures in California anti deficiency laws which is called CA Section 580b.

In California if you have a Purchase Money Mortgage and never refinance there is an Anti Deficiency Judgment called Section 580b meaning your lender can not pursue any deficiency judgment once the house forecloses or sold. If your home qualified as a principal residence and has purchase money mortgage then if you do Short Sale, the balance owed called deficiency judgment is covered under CA Section 580b. which states:

No deficiency judgment shall lie in any event after a sale of real property or an estate for years therein for failure of the purchaser to complete his or her contract of sale, or under a deed of trust or mortgage given to the vendor to secure payment of the balance of the purchase price of that real property or estate for years therein, or under a deed of trust or mortgage on a dwelling for not more than four families given to a lender to secure repayment of a loan which was in fact used to pay all or part of the purchase price of that dwelling occupied, entirely or in part, by the purchaser.

Where both a chattel mortgage and a deed of trust or mortgage have been given to secure payment of the balance of the combined purchase price of both real and personal property, no deficiency judgment shall lie at any time under any one thereof if no deficiency judgment would lie under the deed of trust or mortgage on the real property or estate for years therein.

Your home must be your principal residence in which you and family lives. It includes the conventional single family home, condominium or cooperative, a mobile home or a duplex. If the taxpayer has more than one residence, it is the home in which the taxpayer lives most of the time.

California Section 580b states for Residential 1-4 units, Owner intends to occupy a unit in the secured real property r purchase money loan or a non recourse loan, there is NO deficiency judgment if senior or junior lienholder .

California Section 580b states for non-owner occupied or other real property for a seller financed purchase money loan which is a non recourse loan there is no deficiency judgment if senior or junior lienholder.


California Section 580d states for refinance which is a non purchase money loan is a recourse loan , no deficiency judgment it it’s a trustee’s sale foreclosure and yes there is a deficiency judgment if it’s a judicial foreclosure.

California Section 580d states for non-owner occupied or other real property for a refinance non purchase money loan which is a recourse loan there is a deficiency judgment if it’s judicial foreclosure and there is NO deficiency judgment if it’s a trustee sale foreclosure.


CALIFORNIA HAS RULES REGARDING MORTGAGES:

1. THE PURCHASE MONEY RULE: In California, a lender who loaned you money to BUY your home, which you ORIGINALLY moved into as your primary residence, cannot do anything other than foreclose. This means if the foreclosure sale does not pay all “purchase money” loans, those lenders cannot sue you for the unpaid balance. Most importantly, this includes second mortgages used in many 80/20 100% financing deals.
If you REFINANCED any of these loans, or paid down purchase money HELOC and drew down on it again, this rule does not apply.

2. THE ONE ACTION RULE: In California, a mortgage lender can only take one action against you: A non-judicial foreclosure, or a judicial foreclosure. A non-judicial foreclosure is just like the PURCHASE MONEY RULE, a lender can only sell the property to pay the loan. If the sale does not pay the mortgage, the foreclosing lender cannot get the unpaid balance from you. However, the lender can get the balance from you in a judicial foreclosure. The good news is judicial foreclosures are too uncertain and costly for lenders that they are almost non-existent. BUT, (pay attention, this is important) if a lender’s security interest is wiped out by a senior mortgage foreclosure, the junior lender can obtain a deficiency judgment for their unpaid balance because they have not had their ONE ACTION against you yet (subject to the PURCHASE MONEY rule of course). This situation is very common these days for that second mortgage you used to remodel the kitchen and bathroom.

3. THE CANCELLATION OF DEBT RULE: Both the IRS and California tax you for the amount of debt that is CANCELLED in any given tax year. Debt is cancelled only when a lender has given up on its right to collect the debt or they are barred by law from collecting the debt (think PURCHASE MONEY & ONE ACTION rules).

4. THE BANKRUPTCY & INSOLVENCY EXCEPTION. Both the IRS and California exclude cancelled debt from your income to the extent the debt was CANCELLED in bankruptcy or you were insolvent; BUT ONLY TO THE EXTENT OF YOUR INSOLVENCY!!!! You are insolvent when your debts exceed your assets. Assets include IRA and pensions.

When I did my Short Sale with Countrywide I did not hire a lawyer because I cannot afford to do so. But thank God for Moe, *** and Professor Shays who gave all email addresses and the names of the CEO, president and the higher ups of CW for me to send my email and was able to negotiate my Short Sale helping my real estate agent in negotiating with the Negotiator. I was able to get a letter by mail and email stating that they will not pursue any deficiency judgment against us, they wanted me to sign a promissory note to pay the balance of the 2nd but I told them I rather file for bankruptcy and let them foreclose the house, they better accept the offer because my buyers were backing out and the prices of the homes in our area were going down. We closed escrow on July 9, 2008 with letter from the title company and CW stating they will not pursue any def judgment against us, they have emailed me how much the balance was forgiven which I used when I flle my income tax and I've Full Reconveyance letters from the County recorder and the title company.

I just want to inform you that Short Sale as well as foreclosure and Loan Modifications are a very long, draining, frustrating process. You have to be bold, persistent, patience and call, call, email, email your negotiator, lender and their higher ups. As Moe always says, the Squeaky wheels get the grease




Hope this helps.

[ultimate4799]

Hi Faith,
Thanks much for the very informative things you've shared me. I appreciate it but have a couple of questions that based on your experience, you may know answer as well :-

3. THE CANCELLATION OF DEBT RULE: Both the IRS and California tax you for the amount of debt that is CANCELLED in any given tax year. Debt is cancelled only when a lender has given up on its right to collect the debt or they are barred by law from collecting the debt (think PURCHASE MONEY & ONE ACTION rules).
>>> Lets say if my 1st lender(WFB) foreclosed non-judicially(this was in a specified statement under their NOD sent to me), that means no DJ from Wells. But 2nd, will become unsecured and may file judgment against me... Assumung 2nd lien don't settle and obtained deficiency jdugment, Please explain to me how will this cancellation of debt come into play. Do I need to add $120k as part of my income for this 2009 year? any thought?

4. THE BANKRUPTCY & INSOLVENCY EXCEPTION. Both the IRS and California exclude cancelled debt from your income to the extent the debt was CANCELLED in bankruptcy or you were insolvent; BUT ONLY TO THE EXTENT OF YOUR INSOLVENCY!!!! You are insolvent when your debts exceed your assets. Assets include IRA and pensions.
>>> Can I also claim insovency even without filing bankruptcy? Reason is, I have credit card debts of $45k, auto loan of $20k and mortgage debt of at least $760k and for sure this is way more than my assets(including retirement account). Any insights?

Lastly, if I do short sale, newer and bigger house in my area are only listed for $400k at most... This has very big deficit versus the 1st loan I have which is $640k($664k per NOD).. Will selling it short by at least $240k still protect me under CA section 580b as far as my 1st loan is concerned? How about the 2nd loan?

Based on what I read, it seems to me foreclosure will be best for me then decide later if I got to settle lest for the 2nd loan or just file BK.. I worry I need to go thru that hassle on short sale and ended up 1st loan asking me to sign a promisory note paying the huge deficit.. But I maybe wrong(in panic mode after I saw the NOD and I wanna hear what experienced loansafers like you and the rests(specially attorneys have to say.

I highly appreciate the help!

-J

[faith]

Ultimate4799,

I have researched the IRS website to answer your questions so that information is clear and accurate because they are the only who can answer questions about taxes.

Source: http://www.irs.gov/individuals/article/0,,id=179414,00.html

The Mortgage Forgiveness Debt Relief Act and Debt Cancellation
If you owe a debt to someone else and they cancel or forgive that debt, the canceled amount may be taxable.

The Mortgage 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, qualifies for the relief.

This provision applies to debt forgiven in calendar years 2007 through 2012. Up to $2 million of forgiven debt is eligible for this exclusion ($1 million if married filing separately). The exclusion does not 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.

More information, including detailed examples can be found in Publication 4681, Canceled Debts, Foreclosures, Repossessions, and Abandonments. Also see IRS news release IR-2008-17.

The following are the most commonly asked questions and answers about The Mortgage Forgiveness Debt Relief Act and debt cancellation:

What is Cancellation of Debt?
If you borrow money from a commercial lender and the lender later cancels or forgives the debt, you may have to include the cancelled amount in income for tax purposes, depending on the circumstances. When you borrowed the money you were not required to include the loan proceeds in income because you had an obligation to repay the lender. When that obligation is subsequently forgiven, the amount you received as loan proceeds is normally reportable as income because you no longer have an obligation to repay the lender. The lender is usually required to report the amount of the canceled debt to you and the IRS on a Form 1099-C, Cancellation of Debt.

Here’s a very simplified example. You borrow $10,000 and default on the loan after paying back $2,000. If the lender is unable to collect the remaining debt from you, there is a cancellation of debt of $8,000, which generally is taxable income to you.


Is Cancellation of Debt income always taxable?Not always. There are some exceptions. The most common situations when cancellation of debt income is not taxable involve:

• Qualified principal residence indebtedness: This is the exception created by the Mortgage Debt Relief Act of 2007 and applies to most homeowners.
• Bankruptcy: Debts discharged through bankruptcy are not considered taxable income.
• Insolvency: If you are insolvent when the debt is cancelled, some or all of the cancelled debt may not be taxable to you. You are insolvent when your total debts are more than the fair market value of your total assets.
• Certain farm debts: If you incurred the debt directly in operation of a farm, more than half your income from the prior three years was from farming, and the loan was owed to a person or agency regularly engaged in lending, your cancelled debt is generally not considered taxable income.
• Non-recourse loans: A non-recourse loan is a loan for which the lenders only remedy in case of default is to repossess the property being financed or used as collateral. That is, the lender cannot pursue you personally in case of default. Forgiveness of a non-recourse loan resulting from a foreclosure does not result in cancellation of debt income. However, it may result in other tax consequences.

These exceptions are discussed in detail in Publication 4681.

What is the Mortgage Forgiveness Debt Relief Act of 2007?
The Mortgage Forgiveness Debt Relief Act of 2007 was enacted on December 20, 2007 (see News Release IR-2008-17). Generally, the Act allows exclusion of income realized as a result of modification of the terms of the mortgage, or foreclosure on your principal residence.

What does exclusion of income mean?Normally, debt that is forgiven or cancelled by a lender must be included as income on your tax return and is taxable. But the Mortgage Forgiveness Debt Relief Act allows you to exclude certain cancelled debt on your principal residence from income. Debt reduced through mortgage restructuring, as well as mortgage debt forgiven in connection with a foreclosure, qualifies for the relief.

Does the Mortgage Forgiveness Debt Relief Act apply to all forgiven or cancelled debts?No. The Act applies only to forgiven or cancelled debt used to buy, build or substantially improve your principal residence, or to refinance debt incurred for those purposes. In addition, the debt must be secured by the home. This is known as qualified principal residence indebtedness. The maximum amount you can treat as qualified principal residence indebtedness is $2 million or $1 million if married filing
separately.

Does the Mortgage Forgiveness Debt Relief Act apply to debt incurred to refinance a home?
Debt used to refinance your home qualifies for this exclusion, but only to the extent that the principal balance of the old mortgage, immediately before the refinancing, would have qualified. For more information, including an example, see Publication 4681

How long is this special relief in effect?It applies to qualified principal residence indebtedness forgiven in calendar years 2007 through 2012.

Is there a limit on the amount of forgiven qualified principal residence indebtedness that can be excluded from income?The maximum amount you can treat as qualified principal residence indebtedness is $2 million ($1 million if married filing separately for the tax year), at the time the loan was forgiven. If the balance was greater, see the instructions to Form 982 and the detailed example in Publication 4681.

If the forgiven debt is excluded from income, do I have to report it on my tax return?Yes. The amount of debt forgiven must be reported on Form 982 and this form must be attached to your tax return.

Do I have to complete the entire Form 982?No. Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness (and Section 1082 Adjustment), is used for other purposes in addition to reporting the exclusion of forgiveness of qualified principal residence indebtedness. If you are using the form only to report the exclusion of forgiveness of qualified principal residence indebtedness as the result of foreclosure on your principal residence, you only need to complete lines 1e and 2. If you kept ownership of your home and modification of the terms of your mortgage resulted in the forgiveness of qualified principal residence indebtedness, complete lines 1e, 2, and 10b. Attach the Form 982 to your tax return.

Where can I get this form?If you use a computer to fill out your return, check your tax-preparation software. You can also download the form at IRS.gov, or call 1-800-829-3676. If you call to order, please allow 7-10 days for delivery.

How do I know or find out how much debt was forgiven?Your lender should send a Form 1099-C, Cancellation of Debt, by February 2, 2009. The amount of debt forgiven or cancelled will be shown in box 2. If this debt is all qualified principal residence indebtedness, the amount shown in box 2 will generally be the amount that you enter on lines 2 and 10b, if applicable, on Form 982.

Can I exclude debt forgiven on my second home, credit card or car loans?Not under this provision. Only cancelled debt used to buy, build or improve your principal residence or refinance debt incurred for those purposes qualifies for this exclusion. See Publication 4681 for further details.

If part of the forgiven debt doesn't qualify for exclusion from income under this provision, is it possible that it may qualify for exclusion under a different provision?Yes. The forgiven debt may qualify under the insolvency exclusion. Normally, you are not required to include forgiven debts in income to the extent that you are insolvent. You are insolvent when your total liabilities exceed your total assets. The forgiven debt may also qualify for exclusion if the debt was discharged in a Title 11 bankruptcy proceeding or if the debt is qualified farm indebtedness or qualified real property business indebtedness. If you believe you qualify for any of these exceptions, see the instructions for Form 982. Publication 4681 discusses each of these exceptions and includes examples


I lost money on the foreclosure of my home. Can I claim a loss on my tax return?No. Losses from the sale or foreclosure of personal property are not deductible.

If I sold my home at a loss and the remaining loan is forgiven, does this constitute a cancellation of debt?Yes. To the extent that a loan from a lender is not fully satisfied and a lender cancels the unsatisfied debt, you have cancellation of indebtedness income. If the amount forgiven or canceled is $600 or more, the lender must generally issue Form 1099-C, Cancellation of Debt, showing the amount of debt canceled. However, you may be able to exclude part or all of this income if the debt was qualified principal residence indebtedness, you were insolvent immediately before the discharge, or if the debt was canceled in a title 11 bankruptcy case. Exclusion is also available for the cancellation of certain no business debts of a qualified individual as a result of a disaster in a Midwestern disaster area. See Form 982 for details.

If the remaining balance owed on my mortgage loan that I was personally liable for was canceled after my foreclosure, may I still exclude the canceled debt from income under the qualified principal residence exclusion, even though I no longer own my residence?
Yes, as long as the canceled debt was qualified principal residence indebtedness. See Example 2 on page 13 of Publication 4681, Canceled Debts, Foreclosures, Repossessions, and Abandonments.

Will I receive notification of cancellation of debt from my lender?
Yes. Lenders are required to send Form 1099-C, Cancellation of Debt, when they cancel any debt of $600 or more. The amount cancelled will be in box 2 of the form.

What if I disagree with the amount in box 2?Contact your lender to work out any discrepancies and have the lender issue a corrected Form 1099-C.

How do I report the forgiveness of debt that is excluded from gross income?(1) Check the appropriate box under line 1 on Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness (and Section 1082 Basis Adjustment) to indicate the type of discharge of indebtedness and enter the amount of the discharged debt excluded from gross income on line 2. Any remaining canceled debt must be included as income on your tax return.

(2) File Form 982 with your tax return.

My student loan was cancelled; will this result in taxable income?In some cases, yes. Your student loan cancellation will not result in taxable income if you agreed to a loan provision requiring you to work in a certain profession for a specified period of time, and you fulfilled this obligation.

Are there other conditions I should know about to exclude the cancellation of student debt?Yes, your student loan must have been made by:
(a) the federal government, or a state or local government or subdivision;

(b) a tax-exempt public benefit corporation which has control of a state, county or municipal hospital where the employees are considered public employees; or

(c) a school which has a program to encourage students to work in underserved occupations or areas, and has an agreement with one of the above to fund the program, under the direction of a governmental unit or a charitable or educational organization.
Can I exclude cancellation of credit card debt?In some cases, yes. No business credit card debt cancellation can be excluded from income if the cancellation occurred in a title 11 bankruptcy case, or to the extent you were insolvent just before the cancellation. See the examples in Publication 4681.

How do I know if I was insolvent?You are insolvent when your total debts exceed the total fair market value of all of your assets. Assets include everything you own, e.g., your car, house, condominium, furniture, life insurance policies, stocks, other investments, or your pension and other retirement accounts.

How should I report the information and items needed to prove insolvency?Use Form 982, Reduction of Tax Attributes Due to Discharge of Indebtedness (and Section 1082 Basis Adjustment) to exclude canceled debt from income to the extent you were insolvent immediately before the cancellation. You were insolvent to the extent that your liabilities exceeded the fair market value of your assets immediately before the cancellation.

To claim this exclusion, you must attach Form 982 to your federal income tax return. Check box 1b on Form 982, and, on line 2, include the smaller of the amount of the debt canceled or the amount by which you were insolvent immediately prior to the cancellation. You must also reduce your tax attributes in Part II of Form 982.

My car was repossessed and I received a 1099-C; can I exclude this amount on my tax return?Only if the cancellation happened in a title 11 bankruptcy case or to the extent you were insolvent just before the cancellation. See Publication 4681 for examples.

Are there any publications I can read for more information?
Yes.
(1) Publication 4681, Canceled Debts, Foreclosures, Repossessions, and Abandonments (for Individuals) is new and addresses in a single document the tax consequences of cancellation of debt issues.

(2) See the IRS news release IR-2008-17 with additional questions and answers on IRS.gov
Your Question, Can I also claim insolvency even without filing bankruptcy? Reason is, I have credit card debts of $45k, auto loan of $20k and mortgage debt of at least $760k and for sure this is way more than my assets (including retirement account). Any insights? When you file your income tax you have to attach a letter to your income tax forms explaining in detail what caused the financial hardship due to lack of income, loss of income, divorce, disability etc. You will attach a Statement of Assets and Liabilities, listing all your assets and all your liabilities...

STATEMENTS OF ASSETS AND LIABILITIES

ASSETS
Income - $120,000
401k 20,000
Car 10,000(based on Kelly Blue book)
(Link of Kelly blue book pricing: http://www.kbb.com/kbb/UsedCars/default.aspx

Total assets -$150,000

Liabilities
Car Loan $ 20,000
Credit Card $ 45,000
Mortgage $190,000
(Note: you will only list whatever the balance owed that was forgiven or cancelled once the house foreclosed or sold).

Total liabilities: $255,000 –which is more than your assets

IRS website states:
How do I know if I was insolvent?
You are insolvent when your total debts exceed the total fair market value of all of your assets. Assets include everything you own, e.g., your car, house, condominium, furniture, life insurance policies, stocks, other investments, or your pension and other retirement accounts.

California Section 580b states for Residential 1-4 units, Owner intends to occupy a unit in the secured real property r purchase money loan or a non recourse loan, there is NO deficiency judgment if senior or junior lien holder. If you do foreclose or sell your home and it is a primary residence, purchase money mortgage and never refinanced, CA Section 580b applies.

That’s why it is very important that you negotiate a Short Sale that you will demand it be in writing stating that they will not pursue any deficiency judgment against you.

Note: The information provided is based on IRS laws and CA Section 580b and my experienced having done a Short Sale. It is in your best interest to consider calling a lawyer who is a Real Estate Lawyer with expertise in Short Sale, Loan Modifications and Bankruptcy. Check the website of State BAR Association if you have a lawyer in mind to see if this lawyer is licensed by the State to practice law in California.

Hope this helps.

[faith]

Ultimate4799,
Sorry, I don't know what happened that part of the post disappered. Please click the IRS websites on the link provided to view the complete instructions about Debt and Forgiveness.

The Mortgage Forgiveness Debt Relief Act and Debt Cancellation

Thanks,

[ultimate4799]

Hey Faith, Just to let you know I highly appreciate all your thoughts and for sharing your knowledge to everyone! Still catching up browsing the links provided and trying to understand a little bit on CA laws But based on what I read below, seemed I can be insolvent during the time of foreclosure or short sale... Now what I just need to worry next is planning on how to avoid deficiency judgement specially from my 2nd loan!

thanks much!

[faith]

Ultimate4799;
Here are additional links that may help you too.


Home Foreclosure and Debt Cancellation


IRS Form 1099-C: Cancellation of Debt


As far as the 2nd mortgage make sure you do not sign a promissory note to pay the $240k that's a lot of money. They cannot do anything if the house foreclose or sold if it's purchase money mortgage and you've never refinanced.

If you want to settle the 2nd mortgage you can do it but start with 10% of the balane owed, say you owe $240k that's about $24,000, payable in 30 years no interest.

Negotiate

Lenders

Loan Balance

Start here

Offers

$ 240,000.00

10%

15%

20%

25%

30%

$24,000.00

$36,000.00

$48,000.00

$60,000.00

$72,000.00

Payable in 30 years no interest

Lenders will accept a buyer's offer within 85%-90% of the fair market value of your home-

Fair Market Value85%90% $ 640,000.00 $544,000.00 $576,000.00

You can find out the selling prices or the sold homes in your area by checking
zillow.com

Real Estate, Homes for Sale & Real Estate Values - Zillow

Hope this helps.

[faith]

Ultimate4799;
Please see the link about Short Sale Outposts that Moe and other members of this forum posted. Hope this helps.


Short Sale Outpost - Loan Modification Forum - LoanSafe.org


Thanks,

[ultimate4799]

thanks much, Faith! You are truly a dedicated loansafer and very helpful to all members!

[Marshall Rosenbach Esq.]

Ultimate - faith's information is great. Also, understand that everything can be negotiated. You can contact the 2nd mortgage holder and tell them you are ready to walk away or file a BK....if the 2nd mortgage is not a purchase loan, see if they will accept 5% of the loan balance as a settlement in full.....also, regarding all of your tax questions, it really makes sense for you to discuss these matters with a tax lawyer who specializes in the area. Or talk to your CPA for more information on what is taxable and what is not. Finally, it never hurts to see if your lender will modify your loan by lowering the principal balance and/or lowering the interest payment significantly so you can stay in the home. Remember, you are going to have a sale date approximately 110 days after you got that NOD. So get in touch with the lenders now!