Discussion:Foreclosure with a twist.

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Discussion Forum Index --> Advanced Tax Questions --> Foreclosure with a twist.


Discussion Forum Index --> Tax Questions --> Foreclosure with a twist.

EZTAX (talk|edits) said:

25 September 2007
This is going to be an interesting tax season for many of us!

Taxpayer's brother wants to buy a home. Since his credit is bad, he talks his brother (my client)into co-signing. When they leave the paper-signing, taxpayer realizes that only his name is on the title and mortgage.

After making 4 or 5 payments in 06 brother stops making payments. Bank takes property. I put return on extension hoping things will sort out by October. Just talked to taxpayer. Home is still on the market for $75,000 less than purchase price.

My concern is that taxpayer will have a large cancellation of debt income with no easy escape. (No bankruptcy, perhaps slight degree of insolvency.) I am leaning on setting this up as a rental property with the brother's payments shown as rental income with the corresponding interest/tax deductions. This will give me a loss on the sale of the rental property to take against the cancelled debt income when bank finally sells the property.

I understand the rules regarding "beneficial ownership" but don't know if they are applicable to the cancelled debt income. If they applied I suppose I could try to shift the entire problem to the brother.

I am not totally comfortable with any of the solutions I have come up with.

Ideas? Thanks.

TheTinCook (talk|edits) said:

25 September 2007
Since the client didn't charge brother fair rent you can't treat the property as a rental. Unless you somehow treat the brother's mortgage payments as rent payments to the client. Or "gift" the rent to the brother. A lot of bootstraping needed.

Did the brother deduct mortgage payments?

It also matters if the debt is recourse to the client. Also if it really was a short sale instead of a foreclosure.

EZTAX (talk|edits) said:

25 September 2007
Thanks TinCook, I guess I wasn't very clear. I was thinking of treating the mtg payments as rental income. Brother did not deduct mortgage payments. I am still trying to find out if the debt is recourse or not.

TheTinCook (talk|edits) said:

25 September 2007
So the client can pick up the mortgage payments. You've got to treat the difference between the payments the brother made and fair market rent as a gift. Also pick the gifted amount up as rental income as well as the mortage payments made by the brother. Otherwise the rental turns into personal use. You might need to amend prior year returns to reflect the rental.

To figure out the gain(loss) and/or COD income you'll need to know the balance of the debt, the adj basis of the house, and the FMV of the house. You'll also need to know if its recourse or non.

Riley2 (talk|edits) said:

25 September 2007
I see no COD income for your client if the original agreement between the client and his brother was that the client's brother would be primarily responsible for repayment of the debt and that the client's brother would be entitled to the benefits and burdens of the property. See SCA 1998-039.

Holymoley (talk|edits) said:

9 October 2007
Uncle Sam does not tax cancellation of debt income on nonrecourse loans if the lender forecloses. However, if a lender voluntarily forgives debt by agreeing to a short sale or a deed in lieu of foreclosure, the forgiven debt could be subject to cncellation of deb t income tax, even if the loan is nonrecourse, says the IRS.

Riley2 (talk|edits) said:

9 October 2007
I believe that EZTax practices in an anti-deficiency state (California). If the mortgage is subject to CA anti-deficiency laws, there would be no debt cancellation income.

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