IRS Debt Relief Act – How to take advantage of it

Before the IRS Debt Relief Act of 2007 came into effect, the homeowners were supposed to pay taxes for the loan amount that was forgiven by their lenders. This Act allows taxpayers to exclude certain cancelled debt amount from their taxable income. However, this is applicable only on your loans taken against your principal residence. It is also referred to as Mortgage Forgiveness Debt Relief Act.

What is the purpose of IRS Debt Relief Act?

The purpose of IRS Debt Relief Act is to help homeowners who are struggling with multiple debts. Under this Act, they will get some tax relief if they satisfy the eligibility criteria of debt cancellation, which are discussed in the next section.

What debts can be forgiven under this Act?

Though Mortgage Forgiveness Debt Relief Act allows homeowners to exclude certain debts from being taxable, yet it is not possible to exclude every debt. As for example, this Act doesn’t apply to car loans and credit card debts.

Go through the following lines to know the conditions under which you get tax relief on cancelled debt.

  • Year of cancellation – The debt need to be cancelled between 2007 and 2012.
  • Tax relief amount – As per the Act, tax relief is limited only to $2 million debt amount.
  • Type of debt – Debt that has been utilized to build, buy and improve your principal residence. IRS Debt Relief Act is not applicable to rental property, second home or vacation homes.
  • Bankruptcy – You can also get tax relief for debts that are discharged through bankruptcy.

Benefits of Mortgage Forgiveness Debt Relief Act

The benefits of Mortgage Forgiveness Debt Relief Act are discussed in the following lines.

  • Relieve tax obligation – Current homeowner is relieved of staggering tax obligation liability. He/she can also sell his/her home for less than the owed amount.
  • Increase short sales of homes – If the homeowners are not able to afford the mortgage loans, then they can opt for short sale on homes. It helps the buyers to purchase these properties at a lower price.

When your lender cancels a debt amount, then he/she is supposed to send you ‘Form 1099-C, Cancellation of Debt’. The forgiven debt amount will reflect in box 2 of the form. You also need to report it (the forgiven debt amount under IRS Debt Relief Act) on Form 982 and attach it to your tax return form.