You’re upside-down on your home

While many in the news are already celebrating a housing recovery, an estimated 7 million Americans remain underwater on their mortgages. Bankruptcy is one of six main options for dealing with an underwater mortgage and it can provide relief in a number of ways. By filing, you may be able to:

  1. Catch up on past due mortgage payments or negotiate a loan modification so you can stay in your home;
  2. Eliminate a second mortgage or home equity loan through bankruptcy;
  3. Erase debt that could be due if the lender foreclosed and sold your home for less than you owed;
  4. Free up money that you were paying on other debts so you can afford your home loan; and/or
  5. Avoid a big tax bill from “cancellation of debt income” that may result if your home goes into foreclosure or if you negotiate a short sale.

Many homeowners we talk with are shocked to learn that their second mortgages or home equity lines of credit (HELOCs) were not resolved when their property went to foreclosure or was sold short.  Many second mortgages are ‘recourse’ loans, which means that a lender can still try to recover the balance. It’s common to see unresolved balances of $100,000-200,000 on these second mortgage loans, especially in certain parts of the country where property values went sky-high during the real estate boom.

The Credit.com blog is filled with comments from taxpayers who have received 1099-Cs reporting canceled debt as income and are potentially facing enormous tax liabilities as a result. Some of the largest debts come from homes that have been foreclosed upon or were sold in a short sale for less than the balance due on the loan.

Some consumers will be able to use the Mortgage Debt Forgiveness Relief Act to avoid paying taxes on that canceled debt. But for those who don’t qualify for that exclusion, filing for bankruptcy may have been a wise move, since debts discharged in personal bankruptcy are not taxable.

If you are currently underwater and either facing foreclosure or trying to sell your home via a short sale, talk with a tax professional before you decide on which approach to take. If it looks like you may owe taxes as a result of the foreclosure or short sale, meet with a bankruptcy attorney as soon as possible.

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Chapter 7, 11, and 13 Bankruptcies

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