The Bush tax cuts aren’t the only measures that expire on New Year’s Day. So will the Mortgage Forgiveness Debt Relief Act of 2007. Without that law, homeowners who have negotiated a short sale–that is, have part of their mortgages forgiven by the lender because they are so far underwater when they sell their home–will have to count the amount chopped off their mortgage as income for tax purposes.
Say a person owes $200,000 on his house but it’s only worth in today’s market for $100,000. If the mortgage is held by the federally regulated lender Fannie Mae or Freddie Mac, there is a federal program that makes it possible for the underwater amount to be forgiven when the home is sold at market value. So in a short sale, the person might be able to sell the home for $100,000 but be clear of the mortgage. But after New Year’s Day, he will have to declare the $100,000 that Fannie Mae wrote off as if it were money that he actually received. And then pay taxes on it!