Mortgage Modification Plan My Have Income Tax Effect For Investment Property

A homeowner may incur income tax liability for debt forgiveness when a bank forgives a portion of a mortgage either by taking a deed in lieu of foreclosure, through a short sale for part of the mortgage balance, or by relinquishing rights to a deficiency judgment after foreclosure sale. Owner occupants are exempt from imputed income. A caller this past week asked me about income tax treatment from a mortgage modification. In this case, the mortgage lender had proposed forgiveness of past-due interest and late fees. The accounting question is whether the modification has the same income tax effect as forgiveness.

I do not know the answer to this question; the issue is one of tax accounting. I assume the income tax effect of a mortgage modification plan depends on the terms of each individual plan. For instance, if the mortgage lender restructures the payment stream there is probably no income tax effect. However, when the modification involves any write-off of interest or principal then income tax issues are involved. Anyone considering a mortgage modification plan either through a government designed program or a lender’s voluntary program should consult with a tax expert when the modification involves other than your primary residence.

posted by Jonathan Alper, asset protection and bankruptcy attorney Orlando, Florida