Tax Implications of a Deed in Lieu of Foreclosure (or short sale)

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Services for Real Estate Pros with S.P.O.C.H. a 501c3 Charitable NP

 

 Q. Are there tax implications when an owner gives a lender a deed in lieu of foreclosure to avoid a foreclosure proceeding?

My answer  included information about preforeclosure short sales, too, but the reporter chose not to include this information.  Frankly, I haven't seen too many DILs.  Many people are under the mistaken belief that accepting a Deed In Lieu of foreclosure is commonplace.  But it's not.  Not yet, anyway.  Lenders would much rather entertain a preforeclosure short sale than take the deed, and take back the property without first an attempt to sell.

 

 

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Rainer
26,000
Toya Condelee
Exit Realty Results - Carson, CA

Somebody asked me about this and now I have an answer for them!

It makes sense---the bank wants $$$ not the property, so I see why they would entertain a shortsale rather than a DIL!

thanks again for sharing your experience! 

Apr 18, 2007 02:30 PM #2
Rainmaker
592,578
Lisa Hill
Florida Property Experts - Daytona Beach, FL
Daytona Beach Real Estate
I'm researching this topic for one of my sellers. I see you wrote this post several months ago. Have you seen any changes since you wrote this?
Sep 17, 2007 05:29 PM #3
Rainer
33,648
David Petrovich
S.P.O.C.H. a 501c3 Charitable NP - Oakhurst, NJ

"I see you wrote this post several months ago."

 

No, still the same.  But also the same is the 'treatment'of the income arising from forgiven debt....

If the homeowner is insolvent, the income may be wholly, substantially, or partially exempt from tax.

Sep 17, 2007 05:39 PM #4
Anonymous
Anonymous
TH
What if the mortgage is as a result of fraud? Is the homeowner still penalized by the taxes as well as the negative effect of the DIL (other than the 30, 60, or 90 day lates on the loan)?
Oct 12, 2007 03:15 PM #5
Rainer
33,648
David Petrovich
S.P.O.C.H. a 501c3 Charitable NP - Oakhurst, NJ

Hmmm. I don't think the answer to your question can be painted with a broad brush.   I'd say yes UNLESS the loan transaction was rescinded by a court, &/or determined by the court to be, in fact, a result of fraud and the borrower not responsible.  But some body would have to make the official determination 1) the transaction was fraudulent, and 2) the borrower was the victim. 

Oct 14, 2007 07:02 AM #6
Anonymous
Anonymous
Cristian

All you need is a good mortgage calculator and your troubles will seem to have vanished into thin air, but of course you need a professional person for all that to be real.

Jul 30, 2008 01:13 PM #7
Rainmaker
181,500
Sara Bonert
Zillow - Atlanta, GA
Real Estate Internet Marketing

Checking in a year later- seeing any more increased/decreased usage of this?

Sep 04, 2008 11:16 PM #8
Rainer
33,648
David Petrovich
S.P.O.C.H. a 501c3 Charitable NP - Oakhurst, NJ

I'm hearing more about it... and many people are under the mistaken impression they can deed the house back, mail in the keys, and its a done deal. 

Sep 05, 2008 08:33 AM #9
Anonymous
Anonymous
K

I did a DIL in 08.  The foreclosure sale was closing in me, short sale to no avail.  I mistakenly thought the tax implication would be similar to a short sale - Whereby I was responsible for only the difference between loan balance and what the house sold for.  My house sold two months after the DIL.  NOT THE CASE!  I have my 1099 now for the entire loan balance.  While I should be fine under mortgage relief Act, I have this going toward my lifetime capital gains limit.  Seriously affecting my future. 

Jan 29, 2009 02:54 PM #10
Rainer
33,648
David Petrovich
S.P.O.C.H. a 501c3 Charitable NP - Oakhurst, NJ

That doesn't seem right.

 

The bad news comes directly from the IRS, via Publication 544:

"If you do not make payments you owe on a loan secured by property, the lender may foreclose on the loan or repossess the property. The foreclosure or repossession is treated as a sale or exchange from which you may realize gain or loss. This is true even if you voluntarily return the property to the lender. ... You figure and report gain or loss from a foreclosure or repossession in the same way as gain or loss from a sale or exchange. The gain or loss is the difference between your adjusted basis in the transferred property and the amount realized."

Those calculations also take into consideration any cancellation of debt income and the type of mortgage.

So yes, you could indeed pay tax on the money that was used to pay back the mortgage even though you don't get any of it.

The popular home sale gain exclusion allows a single homeowner who sells his property under more favorable circumstances to exclude up to $250,000 profit from taxes; the exclusion is $500,000 for married couples filing jointly.

The exclusion also applies in foreclosures. As long as the seller, in this case the foreclosed-upon owner, lived in the home as his principal residence for two of the last five years, he also can avoid taxes on any capital gain profit, phantom or real.

Jan 29, 2009 03:09 PM #11
Anonymous
Anonymous
eugene johnson

My son bot a California condo in 2005 and hasn't lived in it since late 2006. It has been on the market and empty since late 2006. Mortgage is 135m. Current value is 60-65m. Payments are delinquint last 3 months.

What is their best alternative? Seems like a short sale might be so they don't have a 1099 for 135m if foreclosure or DIL. Does the IRS have a program so the amt can be over a 5 yr. period or so without interest?

Thx, Gene

May 09, 2009 09:48 PM #12
Anonymous
Anonymous
eugene johnson

My son bot a California condo in 2005 and hasn't lived in it since late 2006. It has been on the market and empty since late 2006. Mortgage is 135m. Current value is 60-65m. Payments are delinquint last 3 months.

What is their best alternative? Seems like a short sale might be so they don't have a 1099 for 135m if foreclosure or DIL. Does the IRS have a program so the amt can be over a 5 yr. period or so without interest?

Thx, Gene

May 09, 2009 09:50 PM #13
Anonymous
Anonymous
Mary Christiansen

I bought a mobile home park and had to close it after several years.  I put property up for sale and continued making the monthly payments for years, but as property was not worth what was owed. I gave back to bank with a DIL.  I don't think property has sold.  Bank said they are checking on it, but could not tell me if I would be getting a 1099 for the unpaid balance.  What are your thoughts?  Anything I should do to ease tax burden? 

Dec 26, 2009 10:11 PM #14
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Rainer
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