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Many homeowners believed they could just walk away from their home. When the homeowner lost their home to foreclosure or completed a short sale, they thought their homeownership issues were over. Life was moving along. Exhale. And then… two unexpected and unwelcomed knocks on their door.

The First Knock

The first was the equity line. The equity lender comes knocking and wants the former-homeowner to pay up. The former homeowner assumes it was all wiped out in the foreclosure or short sale. Unfortunately for the homeowner, home equity lines have terms that allow them to survive the foreclosure and short sale…to effectively detach themselves from the home and follow you around like an unwanted credit card debt.

To address this knock, but only in part, the State of California enacted a law that became effective in July of this year. It only applies to short sales…so if you just let the home go to foreclosure, you can still expect that first knock. The law states that if you have an approved short sale, the second lender/equity line lender cannot come back after you (and they cannot ask you for a promissory note or repayment agreement as part of the short sale approval). This is ONLY in California. So if you have properties elsewhere, check local laws.

The Second Knock

Then comes the former homeowner’s second, unexpected knock. The tax man. The tax man wants money from the former homeowner, too. “He” sees the debt that you did not have to pay as income. In an oversimplified example, if the homeowner sold in a short sale or foreclosure for $200K and the homeowner owed $425K, the tax man treats the difference ($225K) as if you got a check for that amount. Even in a low, 15% tax bracket, that means the tax man is looking for you to fork over $33K. A scary knock indeed.

To address the second (tax man) knock, the Federal government enacted the The Mortgage Debt Relief Act of 2007 (the “Act”). It said (over simplified again), that if you sold your primary residence, then the tax man would not treat the amount ($225K in our example) as income. However , the Act is only effective through December 31, 2012. If you sell or foreclosure after that, watch out, the second knock may be making an unwelcome (and very expensive) comeback.

In short, if you are selling your primary residence as a short sale, do it in 2012. Otherwise, you may be facing the dreaded and expensive second knock. The tax man cometh.

The laws discussed above are, as stated, simplified (there are pages of exemptions, exceptions, conditions and details that apply). If you would like me to look at your situation specifically, I am happy to do so…at no cost, pressure or obligation. It’s a big decision, and you need the complete freedom to make it. When and if you are ready to move forward, we are happy to help.

You may reach me at (714) 863-5485 or soldbymelinda@gmail.com

-melinda

PS This article does not constitute legal advice. The laws referenced above are complicated, detailed and subject to conditions, exceptions, exemptions, limitations, etc. Certain provisions are overly simplified and presented here for purposes of general information. They are not meant to advise anyone as to their particular situation.