The current Mortgage Debt Relief Act is a huge tax relief program for home owners who had part of their debt forgiven or canceled by a lender. The current program is set to expire after December 31, 2012, however, the government is currently working to expand the program through 2013. It’s an important asset for home owners to know about because it can help them understand their tax liability if they have had debt forgiven.

It’s best to sit down with a finance or tax professional who can ensure you qualify for the Debt Relief Program because debt cancellation is not always taxable. These situations include indebtedness on a qualified principal residence, bankruptcy, insolvency, certain farm debts, and non-recourse loans. And even if there is forgiven debt that has been excluded from income, it still needs to be reported on Form 982 and attached to the borrower’s tax return. For an accurate accounting of how much debt was forgiven, the lender should provide a Form 1099-C and the amount will be listed in box 2.

The IRS will usually be aware if a borrower has their debt either forgiven or canceled by a lender, because lenders will usually file a Form 1099-C. This is how the IRS is made aware of the situation, and the form also includes the amount of loan proceeds that the borrower is no longer required to pay back. As you can see, the IRS has full exposure to the amount, so it behooves borrowers to be upfront about the situation when doing their taxes.

But the Mortgage Debt Relief Act is something that some taxpayers can take advantage of, especially if they underwent a hardship like mortgage restructuring or foreclosure. If you qualify, the program helps you to exclude income from the discharge of debt on your principal residence so that you don’t have to report the canceled amount as income for tax purposes. The Debt Relief Act applies to debt forgiven from 2007 through 2012.

Currently, up to $2 million in debt is eligible for exclusion for married couples, or $1 million if married and filing separately. Also, if the total liabilities exceed the total assets and forgiven debt doesn’t qualify under this particular provision, it may qualify under the insolvency exclusion. The Debt Relief Act does not apply to losses on the sale or foreclosure of personal property.

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