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Distressed Real Estate: Legal and Tax Consequences

The “underwater home” has been a buzz term for a few years and, unfortunately, continues to be a popular topic of conversation.  Although the market appears to be slowly rebounding, it is doubtful that homeowners will ever see property values as high as they were during the housing boom. Add to that the ongoing effects of our poor economy and many property owners find themselves in the position of exploring various options  to dispose of their distressed real estate.

There are a number of options to consider when dealing with distressed real estate, and each of those options has various tax and legal consequences. Some of the most common choices include refinancing or modifying the loan, undergoing a short sale, executing a deed in lieu of foreclosure with the lender, and foreclosure. Of those options, there continues to be quite a bit of misinformation surrounding short sales and foreclosures in particular.

First, please note that being a property owner and a debtor are two different concepts. One can be the debtor on an underwater mortgage and NOT be the property owner. For example, consider a married couple who purchased a home together in 2006 and then obtained a dissolution of marriage in 2012, wherein the property was deeded to the husband pursuant to the divorce decree.  While the wife is no longer on title to the home, her name is still on the underlying mortgage and therefore she will continue to be legally responsible for the mortgage, despite having deeded the property to her ex-husband. For clarity, throughout this article any reference to property owner shall also mean the debtor.

A Short Sale occurs when the lender accepts an offer on a piece of property for less than what is owed by the property owner. It is extremely important to work with a real estate broker experienced in negotiating short sales in order to achieve a successful short sale. It is equally important to discuss the legal and tax consequences of a short sale with an experienced attorney prior to signing a short sale agreement. Often, property owners are mistaken in their belief that after they complete a short sale, they are no longer responsible for the underlying mortgage or mortgages. There are a number of circumstances under which a property owner will still be legally obligated to pay some or all of a mortgage even after a short sale is completed. Additionally, there are potential tax consequences for completing a short sale. While there are exceptions to this general rule, property owners are liable for income taxes on debt forgiveness. This is an important consideration during pre-bankruptcy planning because while a mortgage can be discharged in bankruptcy, a debt owed to the IRS, most likely, can not. Whether a property owner will face such legal and  tax consequences is dependent upon a number of factors including, but not limited to, whether or not the lender waives their right to pursue a deficiency judgment against the property owner, whether the property is a personal residence or an investment property, or whether the property owner is insolvent.

While a short sale might seem like the best solution, not all who seek this remedy will qualify. Ultimately, many property owners are forced into foreclosure after exhausting other fruitless avenues. Washington allows both judicial and non-judicial foreclosures. However, the majority of foreclosures in Washington are non-judicial; these are beneficial to the property owner because under a non-judicial foreclosure, the lender cannot sue the property owner for the deficiency (the difference between the outstanding debt and what the property sells for at the trustee auction). However, if there is a second mortgage on the property, the owner can expect to be pursued by the lender on the second mortgage.

As a property owner it is your responsibility to be as informed as possible to make the best decision for you and your family. Our office offers a specialized hour-long “distressed real estate consultation” by phone to discuss all of these options in relation to your unique situation. The cost for this particular consultation is $150.00, which will be applied towards your bankruptcy fee should you choose to pursue that path with our firm.

Please note that these web pages are for information only. They do not constitute legal advice. These pages do not constitute, nor do they create, an attorney-client relationship between the law office of Luce, Kenney & Associates, LLC, or Brittany Cline, Esq. and any receiver.

 

By | 2017-04-12T23:42:20+00:00 March 29th, 2013|Questions|Comments Off on Distressed Real Estate: Legal and Tax Consequences