How Does a Short Sale Affect Taxes?

If you’re afraid to short sell your home because of the tax implications, you’ve likely been misinformed about the process. In most cases, you will incur zero tax liability in a short sale—assuming your taxes are prepared properly. In the video below, 30-year veteran tax attorney Evan Nielsen explains the truth surrounding short sale tax implications.

Many people falsely believe debt that is forgiven after short sales will always equal a big tax bill. In our experience of working with thousands of homeowners, that's just not how it usually works.

 

What Happens to the Remaining Debt in a Short Sale?

If you need to sell your home for less than the amount you owe, your lender can agree to forgive the outstanding balance. This forgiven debt is then reported to the IRS as income. If you were to stop there, it’s no surprise that most people assume they’ll be paying for the forgiven debt in some form or another. However, as Nielson explains, there is much more to this process.

 

The Mortgage Forgiveness Debt Relief Act of 2007

The Mortgage Forgiveness Debt Relief Act of 2007 allows taxpayers to exclude up to $250,000 of forgiven debt from their taxable income if they meet specific criteria. The debt must be mortgage debt on a primary residence—in other words, a residence that you have lived in for at least two aggregate years over the last five-year period. You can learn more about this exclusion here.

 

If you’re not eligible for exclusion through the Mortgage Forgiveness Debt Relief Act, there are still other options available to you. Obviously, every situation is unique, and you should seek professional advice specific to your situation. We've talked to hundreds of people who have experienced no liability, and experts like Attorney Nielsen say there’s no tax liability in virtually every circumstance. So, if you’re talking to anyone who’s warning you about short sale house tax consequences… get a second opinion. In virtually every situation, a short sale is better than doing nothing at all.

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