Jo Ann Koontz, attorney/CPA, interviewed by Harold Bubil
Q: Are you seeing sellers in a rush to close before the end of the year?
A: Oh yes, even if it is not practical or probable or realistic to close by the end of the year, it is definitely motivating people to try to close by the end of the year, primarily because of the set expiration of the Mortgage Forgiveness Debt Relief Act. This is the piece of legislation that exempts certain types of homeowners from the cancellation of debt income that they otherwise would be taxed on.
If they meet with the requirements of the law, they would be exempt from tax in their canceled debt from a short sale. What I have found is that even folks who don’t qualify for that law are feeling an urge to close by year-end, because they know it is out there, but they don’t know what it means. So it is kind of like the new thing, "Yeah, we have to close by the end of the year," and I am like "Sir, that law doesn’t even apply to you." It is like the phantom thing that is motivating everyone, even if it doesn’t apply to them.
Q: To whom does it apply?
A: It applies to people who have debt that they are relieved from or forgiven and no longer owe the bank. Typically it comes from a short sale, but that is not the only context. If the lender says, ‘Mr. Smith, you owe us $500,000, we will accept a payoff of $300,000,’ then the forgiven $200,000 would be taxable unless they meet the requirements of the law.
The requirements are that the debt, that $200,000, was used to acquire, construct or improve a primary residence. You buy it, you build it or you make it better. The primary residence is the place that was your main home for two of the past five years; it is not necessarily your homestead, which is a common misconception here.
The debt that was forgiven must be qualified debt, which means it was used to acquire, construct or substantially improve. And the amount must be less than $2 million. It doesn’t apply to rental properties, it doesn’t apply to folks who maybe had a second home or a vacation home, or did not live there long enough, or moved out three years ago and don’t meet with the time frames.
Q: What about forgiven balances on home equity lines of credit?
A: It can apply to home equity lines of credit if they were used to buy or improve the home. We saw piggyback loans, with an 80 percent first mortgage and a 20 percent second, or if the equity loan was used to put in a pool, for example. That is an improvement and that would count. If they took that equity line and paid off credit cards or a car, it would not be qualified.
Q: Many real estate professionals want the Mortgage Forgiveness Debt Relief Act to be extended beyond the end of the year. What are the pros and cons of extending the tax emption for forgiven mortgage debt?
A: Well, the government needs the money. But if they don’t forgive that debt and you get hit with a big tax bill, “look at the things you are not going to be able to buy” because you are going to have a tax lien. You are not going to be able to buy another home, you are not going to be able to borrow money to buy a car. You are not going to be able to buy an iPad or whatever because you are going to have to pay this tax.
Q: What if the exemption goes away and people can't pay a big tax bill?
A: The IRS generally will enter into an installment plan.
Q: What about the capital-gains tax rate? Is that motivating people to close now?
A: It is up for discussion; there is no way to predict what Congress will do. There is pressure both ways, given the fiscal cliff and trying to plug the gap, but given the struggling economy, there is the argument that a higher tax could stump the recovery.
There is the real deadline for year-end, and then people are scared of what might happen next year. You at least know what the capital-gain tax rate is today.
I am just the bad-news bear. No one likes to call me.
