Bankruptcy

Client Seeks Bankruptcy To Avoid Imputed Income After A Foreclosure On Investment Property

By Jonathan Alper

Some people facing mortgage foreclosure consider filing bankruptcy to preclude liability for deficiency judgments. Deficiency liability is not the only problem associated with foreclosure; another issue is income tax from imputed income when a lender foregives part of a mortgage note for a property other than a primary residence. Today, I met an elderly lady who had guaranteed a mortgage loan used by her son to buy the son?s primary residence. The mother resided in her own house even though her name was on the title and mortgage of her son?s house. The son?s house is about to go into foreclosure because the son is unemployed. The mother received an offer for a short sale. The mother wants to file Chapter 7 bankruptcy in order to avoid income tax liability from forgiveness of the debt following either foreclosure or the short sale. People who file bankruptcy do not recognize imputed income from mortgage debt forgiveness. This client had no credit card debt or other unsecured debts. She has no assets other than her exempt pension.

I advised the mother not to file bankruptcy. Most lenders who accept short sales are asking the debtor/owners to sign a note for the amount of debt forgiveness, ie, the "short amount." I advise people with assets not to sign the note even if it means killing the short sale. In this case, the mother would not be putting any assets at risk by signing a note. If the mother signs a promissory note as part of the short sale the lender would be forgiving nothing and there would be no imputed income. In the event the lender rejects the short sale, or if the lender does not accept a note for the "short amount", the mother?s best tax result would be to make sure the lender does not forgive any of the mortgage debt in the course of the foreclosure. The mother is defending the foreclosure in state court. I suggested her lawyer pursue a settlement that eliminates debt forgiveness; she wants to remain liable for the mortgage. The mother can later file bankruptcy if, for instance, it appears that the mortgage company will forgive the mortgage balance after a short sale or foreclosure, or if the mortgage lender pursues a deficiency judgment or note enforcement. In general, bankruptcy is a last resort to be used when there are no other options.

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

Full post as published by Florida Bankruptcy Law on July 23, 2009 (boomark / email).