Is there a way to avoid paying that tax? Possibly. IRS form 982 says, “Generally, the amount by which you benefit from the discharge of indebtedness is included in your gross income. However, under certain circumstances described in section 108, you may exclude the amount of discharged indebtedness from your gross income”. The specific instructions are contained in section 108 of the Internal Revenue Code.
One of the “circumstances” they are referring to is that if you are insolvent before you conduct a short sale then you may be able to “exclude” the forgiven indebtedness (the amount the lender forgave on the loan) from being added to your gross income for that year. Here are some questions you will need to ask an expert:
- Can I avoid paying taxes on the forgiven debt if I was insolvent at the time of the short sale?
- Do I have to file bankruptcy to be considered insolvent?
- If you already used a short sale and paid taxes can you file an amended return and get a refund?
- Does your real estate agent understand any of this?
- Do you have to surrender your property in bankruptcy to be eligible for relief?
- Does a form 982 have to be filed in order to be eligible for tax relief?
These are just a few of the questions that should be asked. But, it may very well be worth it. You can find Form 982 on the IRS web site located at www.irs.gov/pub/irs-pdf/f982.pdf
