Introduction. For most readers of my rants posts, it is no secret that I am a strong supporter of the “little guy;” the folks who suffered the brunt of the Great Recession; whose political heft is felt only during elections, and is otherwise at the mercy of politicians, their hacks and cronies.
However, during the post-recession years, circa 2010 forward, I have watched with disgust what our elected leaders have done under the guise of helping the “little guy.” In my opinion, they have taken every opportunity to capitalize on every transgression by Wall Street and the Big Banks, to fear-monger and fight, solely in an effort to shore up their flagging poll numbers. While trying to aggregate power in Washington, they have completely ignored the needs of the constituents that elected them.
One example stands out among all the rest: In 2009, Congress passed a bill[1] designed to forgive the income tax consequence of cancelled debt arising from foreclosures, short sales, and other distressed housing events [“the Forgiveness Law”]. So if a lender consented to a short sale in which it took a $75,000 “haircut,”[2] it routinely filed a 1099-C form the following January, telling the IRS [with a copy to the borrower] that the borrower had received “income” in the form of $75,000 of cancelled debt. According to IRS Sec. 108, this meant that the taxpayer would be taxed at their ordinary income tax rates [both state and federal] for the $75,000 they indirectly “received” when the bank cancelled the remaining indebtedness on their loan.
But thanks to the Forgiveness Law, for the last several years, distressed borrowers receiving a 1099-C could file a Form 982, and be relieved of the income tax consequences if their cancelled debt arose from a loan they used to buy, build, or substantially improve their primary residence.[3]
The Forgiveness Act was set to expire in 2012. However, by the of that year, it was apparent that housing had still not rebounded – home prices remained depressed – leaving millions of Americans with “negative equity,” where their mortgage debt exceeded the value of their homes. In the vernacular, they were “underwater,” and a sale of the home would be insufficient to pay closing costs and repay the entire mortgage debt. Thus, short sales, deeds-in-lieu, and foreclosures were the only viable way for a taxpayer to transition out of their home, due to job loss, job change, health issues, etc.
Since short sales and other distressed housing events were problematic if they resulted in a large income tax consequence, the Forgiveness Act was extend in January 2013.[4] But by the end of 2013, it was apparent that the economy and housing had not sufficiently rebounded. In fact, in the Portland Metro area, foreclosures were actually increasing in 2014!
While one would think that another extension of the Forgiveness Act into 2014 would be a no-brainer, that conclusion would be wrong. One should never overestimate our politicians’ collective ability to do what is best for the “little guy.” Instead of doing the right thing, they focused their attention on publically bickering, finger-pointing, pontificating and generally doing what was necessary to get more face-time and ink; finding time to do what they were elected to do fell to a distant second.
We are now rounding the corner on 2014. While there isn’t a single politician who would say they oppose extending the Forgiveness Law, there is not one who will make it happen. The result is that folks who have experienced a distressed housing event this year are left to worry whether they will receive a 1099-C in January 2015, with no way to pay the tax. This is what keeps the average person awake nights – not whether the President will make his tee time tomorrow.
Conclusion. My suspicion is that after the mid-term election, the pols will start to focus on things other than themselves, and retroactively extend the law for 2014. Will that satisfy me? No! Nyet! Nein! Why? Because by their dithering, thousands of homeowners who completed distressed housing events this year, were forced to worry whether they were merely going from the frying pan into the fire. To me, doing the right thing demands that it be done at the morally correct time not the politically convenient time.
[1] Known as the Mortgage Forgiveness Debt Relief Act of 2007.
[2] That is, it received $75,000 less than what the borrower actually owed.
[3] Note that if the homeowner used a secured line of credit [aka a Home Equity Line of Credit or “HELOC”] on their primary residence to pay down debt or other such purposes, the Forgiveness Law provide no relief.
[4] Note, under IRC 108, there are other avenues to avoid the dire income tax consequences of forgiven debt, specifically, by taking out bankruptcy, or being “insolvent” [which means that one’s debts exceed their assets].
