[Alberta's Child]

The problem with this is the IRS will send you a tax bill. The bank will send you a 1099 and a copy goes to the IRS. If the value of the house is $400,000, you get a tax bill on that amount.

Are you sure this is true? In order for the full value of this home to be considered a taxable "event" for the homeowner, it would seem that the bank would have to forgive the $400,000 loan and then sell the home for $0.

[PayNoAttentionManBehindCurtain]

Its posted on the internet....

Most likely just pulled it out their a$$ and flung out as the gospel

BigMack

[RC2]

From my understanding this is how the IRS works. By the bank forgiving the loan, the IRS looks at it as profit to you.....thereby taxing it. I would highly suggest that if anyone is considering this, check with the IRS first. The IRS does not advertise this so don’t expect them to volunteer this information. Or, check with your tax guy.

[JTHomes]

I do know that if the bank accepts a short sale, you will get a 1099 for the difference between what you originally owed and the amount the bank accepted through the short sale. In that case the loan is considered paid off. The bank forgave a portion of the debt and that is considered income by the IRS. But if you default and the bank takes back through foreclosure, I don’t believe you owe taxes. The first short sale simply hurts your credit, the foreclosure destroys it.

[Phantom Lord]

Reference:
Publication 544
Sales and Other Dispositions of Assets

http://www.irs.gov/pub/irs-pdf/p544.pdf

on page 4:

Cancellation of debt.
If the abandoned propety secures a debt for
which you are personally liable and the debt
is cancelled, you will realize ordinary income
equal to the canceled debt.
...(snip)... Report income from cancellation of a nonbusiness
debt as other income on Form 1040, line 21.

Hat Tip to VOA for providing this info on another thread, which I cut and pasted here.