Home Mortgage Debt Forgiveness.
Generally, if you renegotiate a loan and reduce the amount owed, the reduction is subject to income tax as “cancellation of indebtedness income.” However, both California and federal income tax laws have special, temporary provisions under which reduction of mortgage debt on a taxpayer’s principal residence is not subject to tax. Unfortunately, these two provisions are confusingly different.
The California rule applies only to debt reductions which occurred in 2007 and 2008 (it is currently uncertain whether California will extend this relief to 2009 or later years), and is limited to principal residence debt of $800,000 for single or married taxpayers and $400,000 for married taxpayers filing separately. The amount of debt reduction which does not have to be taxed is limited to $250,000 for married and single taxpayers and $125,000 for married taxpayers filing separately.
The federal rule, which was amended late in 2008, now applies to debt reductions which occurred from 2007 through 2012, is limited to $2 million of principal residence debt ($1 million for married filing separately) but has no limit as to the amount of debt reduction which is excluded from tax.
You can get more information by going to the California Franchise Tax Board’s website: www.ftb.ca.gov and searching for “mortgage forgiveness.”
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