On the fence considering a short sale? Well, the Mortgage Forgiveness Debt Relief Act of 2007, one of the big incentives to pursuing a short sale, expires on December 31, 2012.
Normally, when a lender forgives a debt — that is, relieves the borrower from having to pay it back — the amount of the debt is taxable income to the borrower. Thus, a homeowner who had $100,000 in mortgage debt forgiven through a short sale would have to pay income tax on that $100,000, as an example. (ie. you owe $500,000 on your loan, but the home is worth only 400,000, the difference being $100,000).
Fortunately, under the Mortgage Forgiveness Debt Relief Act of 2007, you may be able to exclude from your taxable income up to $2 million of debt forgiven on your principal residence from 2007 through 2012. This means you don’t have to pay income tax on the forgiven debt.
This all ends on December 31, 2012.
[UPDATE 1/3/13: this Debt Relief Act has been extended!]