David Foster, who sold his condo in Chicago last month, isn't plugged in to Capitol Hill's political games. But he has banked the financial future of his family on Congress accomplishing at least one thing during the post-election session: renewing the expired Mortgage Forgiveness Debt Relief Act so that he and his wife and three young children aren't crushed by taxes next year on the $100,000 his lender agreed to cancel as part of a short sale.
Like thousands of other owners across the country who have been struggling with underwater properties, Foster, a 33-year-old campus pastor with a local ministry group, knew he was taking a risk when he negotiated the short sale and debt cancellation. In a short sale, the lender allows a new purchaser to buy a house at a price below the mortgage amount owed by the seller. As part of the deal, the lender typically forgives the unpaid balance.
The risk Foster took was this: If the Senate and House do not pass an extension of the mortgage debt relief law during the lame-duck session, the full principal balance his lender wrote off on his mortgage probably will be treated as ordinary income for 2014. Although Foster never received a dollar of that "income" in his wallet, under the federal tax code he'll owe a tax payment to the government — $28,000 — on the $100,000 his lender wrote off.
"I don't know how or where we could come up with that," Foster told me. "I can't believe anyone would think this is a reasonable thing to do" — hit underwater home sellers with heavy tax bills while they're still struggling to recover from their own financial crises.
That is precisely the issue now before the House and Senate — whether to extend for one more year a temporary tax relief provision expressly designed for homeowners such as Foster. It took effect in 2007 as foreclosures began to mount across the country and millions of people fell behind on mortgage payments. Then came the bust in 2008. Then the Great Recession, which hasn't really ended for many families.
The mortgage debt relief law expired Dec. 31, along with other special-interest tax breaks that usually would have been renewed as a package. That process broke down last year, however, leaving people who have received principal debt reductions during 2014 — whether through short sales, loan modifications or foreclosures — twisting in tax limbo.
In Foster's case, a condo he purchased for $202,000 in May 2008 began to plunge in value almost immediately, as did many others in the greater Chicago area. By the time of his short sale last month, the bank concluded the most it could get for the condo was $50,000, which an investor agreed to pay. Yet Foster's remaining loan balance was about $150,000, two-thirds of which the bank wrote off.
Last summer, the mortgage debt relief extension appeared to be moving ahead in the Senate. In a bipartisan vote, the Finance Committee approved what became known as the EXPIRE Act. Along with a package of other short-term tax benefits, the bill extended the mortgage debt relief provisions through December 2015.
Sen. Ron Wyden (D-Ore.), chairman of the committee, sent the bill to Majority Leader Harry Reid (D-Nev.) for floor debate and a vote. But Reid barred it from the legislative schedule when Republicans insisted on adding an amendment to the package that would repeal an excise tax that funds the Affordable Care Act. Reid said he would consider allowing a vote on the EXPIRE bill only during the lame-duck session after the midterm elections.
So here we are. Reid has indicated that the extenders bill should get a vote. Most Capitol Hill experts say there's a good chance the bill will pass.
On the House side, the outlook is muddier. Rep. Dave Camp (R-Mich.), chairman of the Ways and Means Committee, opposes piecemeal extensions of tax breaks. He favors comprehensive tax reform, with no temporary extenders, as do many of his Republican colleagues.
Where's this headed? No one can yet say for sure, but Alexis Eldorrado, the Chicago realty broker who helped Foster accomplish his short sale, says Congress needs to find a way to do the right thing for thousands of financially pressed owners. To fail to pass one more extension, she says, "would be unconscionable."