The most active blog posts we’ve gotten at USTaxAid have to do with the tax consequences of getting rid of bad real estate. When and how do you report a Form 1099-A? When and how do you report a Form 1099-C?
Today we’re going to look at some of the planning that you should do first before you walk away from upside down real estate.
There are 4 common strategies for dealing with severely upside down real estate (you owe more on the property than it is worth). You may let the property go through a foreclosure process. You may negotiate a deed-in-lieu of foreclosure. You may sell at a short sale or you may get a loan modification.
In each of these cases, there is a potential of a federal and/or state tax issue.
In the case of a foreclosure, the lender may decide to come after you for the amount that is still due on the property. You don’t have a forgiveness of debt then (and thus, no tax due). We’ve heard of some cases where owners have negotiated a deed-in-lieu of foreclosure but neglected to get an agreement on what would happen to the amount still due. The lenders then proceeded to sue for the difference. In this case, no tax due either because you’re still on the hook.
In the case of a short sale and a loan modification, it’s almost certain that there has been debt forgiveness or cancellation of debt. And that means there is possibly tax due.
When the lender forecloses, you’ll get a Form 1099-A. This shows the estimated fair market value of the property and amount of debt. The lender may or may not then give you a Form 1099-C. The Form 1099-C shows the cancellation of debt income.
Tomorrow we’ll look into some of the real life issues that lenders are causing with Form 1099-A and Form 1099-Cs, but for now, let’s assume that the lenders are following the rules.
If they have forgiven the debt, they are going to give you a Form 1099-C….maybe. It’s still not that straight-forward because if the lender knows that you have declared bankruptcy or qualify for an exclusion under the residence exclusion rules, they may not give you the Form 1099-C.
If you have received a Form 1099-C, you are required to report it on your individual income tax return as “other income.” However, if you do receive the Form 1099-C and you qualify for an exclusion, don’t report it as “other income” instead you need to report it on Form 982.
Exclusions from Form 982 are for qualified residential debt forgiveness, insolvency and bankruptcy.
But even that’s not so straightforward. That’s because there are some states that are not following the federal guidelines of Form 982.
We did an update on states that weren’t following the federal rules for exclusion on June 23rd: Just Cause The Feds Say So, Doesn’t Mean Your State Will Let You
What does this mean for you if you’re dumping bad real estate?
- Determine if you have Cancellation of Debt income.
- Figure out if you get a federal exclusion.
- Look up whether the state with nexus is following the federal guidelines.
- Form 1099-A, Form 1099-C and Tax Issues with Dumping Real Estate
- Form 1099-A, Form 1099-C and IRS Audits of Real Estate Professionals
- Next Wave of Walk Away Real Estate Owners
- 10 Reasons Why You May NOT Want to Put Your Real Estate in a Pension Plan
- IRS Strikes Gold with Real Estate Professional Audits
We’ll be talking about Tax Strategies for Real Estate Investors all this week. Make sure you check back each day!
Tags: diane kennedy • Diane Kennedy CPA • dumping real estate • ustaxaid • UStaxaid.com
On August 10th, 2010 | 10:54 am
Roman said:
My question is regarding a 1099-C for a rental property. A short sale was done on a rental property for $50,000. The loan amount outstanding was for $110,000.
First of all, is my 1099-C going to say $110,000 or $60,000? Do I also get a 1099-S (for the sale of $50,000)?
I believe I have to reduce my current basis which is $120,000 by the 1099-C amount(assuming that this will be $110,000)giving me the adjusted basis of $10,000.
So my final questions is (if I am correct thus far); Do I now have to calculate a gain on ’sale’ by taking the $50,000 sale amount less my new adjusted basis of $10,000 (giving me a net ordinary gain of $40,000)?
Thanks
Roman
On August 10th, 2010 | 2:18 pm
Diane Kennedy said:
Thanks for the question Roman. I’ve done a bit of a copy/paste below.
Q: My question is regarding a 1099-C for a rental property. A short sale was done on a rental property for $50,000. The loan amount outstanding was for $110,000.
First of all, is my 1099-C going to say $110,000 or $60,000? Do I also get a 1099-S (for the sale of $50,000)?
A: The Form 1099-C is going to show the amount of liability ($110,000) and the Fair Market Value ($50,000)
You’ll probably get a Form 1099-S showing the $50,000 sale as well, but ask your Escrow Company or real estate attorney who is handling the deal.
Q: I believe I have to reduce my current basis which is $120,000 by the 1099-C amount(assuming that this will be $110,000)giving me the adjusted basis of $10,000.
A: You will handle the rental property reporting differently if you have one of the Form 982 exclusions (insolvency, bankruptcy). In that case the current basis is reduced as you have said and you will report the COD income on the Form 982.
Otherwise, report the COD income ($60,000 in this example) as other income and report the sale just like you would any other sale of rental property. You’ll have to recapture depreciation and might have suspended losses to take as well.
Q: So my final questions is (if I am correct thus far); Do I now have to calculate a gain on ’sale’ by taking the $50,000 sale amount less my new adjusted basis of $10,000 (giving me a net ordinary gain of $40,000)?
A: It depends on whether you have to adjust your basis due to a Form 982 change or not. If you don’t, see above. If you do, yes, that sounds correct, however make sure you don’t forget the recaptured depreciation and suspended losses.
On August 12th, 2010 | 9:50 pm
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