Distressed homeowners no longer have to pay California state income tax on debt forgiven in a short sale, foreclosure, or loan modification.  Enacted in law yesterday, Senate Bill 401 generally aligns California’s tax treatment of mortgage debt relief income with federal law.  For debt forgiven on a loan secured by a “qualified principal residence,” borrowers will now be exempt from both federal and state income tax consequences.  The existing federal exemption is for indebtedness up to $2 million, whereas the new California exemption is for indebtedness up to $800,000 and forgiven debt up to $500,000.

“Qualified principal residence” indebtedness is defined as debt incurred in acquiring, constructing, or substantially improving a principal residence.  It iincludes both first and second trust deeds. It also includes a refinanced loan to the extent the funds were used to pay off a previous loan that would have qualified.

The tax breaks apply to debts discharged from 2009 through 2012. Californians who have already filed their 2009 tax returns may claim the exemption by filing a Form 540X amendment.

For more information about mortgage forgiveness tax consequences, go to California Franchise Tax Board’s Mortgage Forgiveness Debt Relief Extended webpage. The full text of Senate Bill 401 is available at www.leginfo.ca.gov.

This entry was posted on Wednesday, April 14th, 2010 at 2:47 am and is filed under My Real Estate Blog. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.