This is a question we get many times, especially during the economic downturn. The IRS is actually here to help the taxpayer and here is their ruling:
Normally, debt forgiveness results in taxable income. But under the Mortgage Forgiveness Debt Relief Act of 2007, enacted Dec. 20, taxpayers may exclude debt forgiven on their principal residence if the balance of their loan was $2 million or less. The limit is $1 million for a married person filing a separate return. Details are on Form 982 along with its instructions, available now at irs.gov.
This is great news during this down economy, otherwise, all this cancelled debt would be taxable.
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