California families who have lost their home in a short sale are not subject to state income tax liability on debt forgiveness “phantom income” they never received in a short sale.
Last month, in a
letter to California Sen. Barbara Boxer, the Internal Revenue Service
(IRS) recognized that the debt written off in a short sale does not
constitute recourse debt under California law, and thus does not create
so-called “cancellation of debt” income to the underwater home seller
for federal income tax purposes. Following the IRS’s clarification,
C.A.R. sought a similar ruling by the California FTB.
Now with the
FTB’s clarification, underwater home sellers also are assured that they
are not subject to state income tax liability, rescuing tens of
thousands of distressed home sellers from California tax liability for
debt written off by lenders in short sales.
are pleased with the recent clarifications issued by the IRS and the
California Franchise Tax Board, which protect distressed homeowners from
debt relief income tax associated with a short sale in California,”
said C.A.R. President Kevin Brown. “We would like to thank Sen. Boxer
and BOE member Runner for their leadership in obtaining this guidance
from the IRS and FTB. Distressed California homeowners can now avoid
foreclosure or bankruptcy and can opt for a short sale instead, without
incurring federal and state tax liability, even after the Mortgage
Forgiveness Debt Relief Act of 2007 expires at the end of this year.”