The Mortgage Forgiveness Debt Relief Act of 2007

In December 2007, the federal government enacted the Mortgage Forgiveness Debt Relief Act. The Act was meant to provide tax relief to taxpayers who had debt forgiven on their primary residence and to help struggling homeowners.

The idea behind the law was to help homeowners avoid foreclosures by not taxing them when they refinanced their mortgages. The law was designed to be an incentive for homeowners and lenders to work together to renegotiate adjustable rate mortgages that were rapidly rising at a time when home values were decreasing and to allow more homeowners to remain in their homes while lenders were paid on the outstanding debt.

The law applies to debt that is forgiven on primary residences in 2007, 2008 or 2009. The general rule is that income that is realized as a result of a mortgage relief measure is considered income for federal income tax purposes. However, the Mortgage Forgiveness Debt Relief Act changes that rule if the mortgage relief, such as a restructuring or foreclosure sale, is done for a primary residence and happens in 2007-2009. In order to qualify, the debt must have been used to buy, build or substantially improve that primary residence and must have been secured by the residence. It does not apply to second homes, credit card debt, car loans or any other type of debt. The provision applies in full as long as the dollar amount of the loan was less than 2 million dollars.

While the majority of people who take advantage of this provision are doing so as a result of a mortgage restructuring or foreclosure sale there is no requirement that the mortgage forgiveness be provided in those ways. Other forms of mortgage forgiveness such as short sales and deeds in lieu of foreclosure also qualify.

One of the biggest criticisms of the Act is that it is providing too little relief too late for the many homeowners who have been suffering. President Bush made clear when he signed the legislation that it was only one step in the necessary process of helping homeowners who have been hurt by the decline in the housing market. 

It is important to note that while income earned in the manner described above will not be taxed for 2007-2009, it still must be reported to the IRS on Form 982. Your mortgage lender will send you a form 1099-C Cancellation of Debt that should be used when completing Form 982 and your tax returns. Like all other tax forms, Form 982 is available from the IRS or from your accountant.

The Mortgage Forgiveness Debt Relief Act of 2007 is one action by the federal government to try to help struggling homeowners achieve mortgage debt relief without incurring the penalty of higher income taxes and it is important to understand the details of the Act if you find yourself in a situation requiring debt relief.