Finance Basics: Short Sale of a Home - What is it and what are the Tax Consequences of it?

In the context of real estate, ‘Short Sale’ is a sale of a house/property for far less than the mortgage balance. The bank agrees to accept this amount as full payment to avoid foreclosure. The proceeds from the sale are used to pay off any balance remaining on your loan, and then the title is transferred to the property owner, even though they may not have paid all the money owed on the property.

Although it is a voluntary process, it has its risks regarding tax penalties. The tax penalties for a short sale are complicated; therefore, hiring a professional tax prep company is the best way.

Before that, this article will give readers a quick overview of the topic.

Short Sale on a House - What is it?

It is a voluntary process where the homeowner sells his home for less than what’s owed. This process can be faster and easier for both parties because it eliminates the need for foreclosure proceedings. However, it also means that the homeowner may not receive any money from the mortgage lender after selling the home.

Understanding how a Short Sale works

So, it is a real estate transaction in which the lender agrees to accept a lesser amount owed on the mortgage. This can occur when the sales price of the homeowner’s property is less than what they owe on it, and other considerations make it impossible for them to continue making payments on their loan.

As already said, it is a voluntary process, meaning that the homeowner must first notify the lender of the intention to sell at an amount below market value. While this may seem like an easy decision from the homeowner’s end, it’s critical to note that many factors are at play during this process. Also, not all lenders might agree to let their borrowers sell their homes for less than what’s owed.

In cases where lenders refuse or delay approval for their borrowers’ short sales, many borrowers find themselves trapped in situations where they cannot pay back their loans. This can lead them into foreclosure proceedings.

Tax Penalties for Short Sales

If you sell your home/property for less than the value of the mortgage, you could face tax penalties. Your short sale will be reported on your income taxes and may incur a penalty from the IRS.

The maximum penalty for a short sale is $5,000 on top of any other fees or interest that may apply to your account if you are currently on payments when making this transaction. If your home has been foreclosed, there will be no tax penalties as long as it was done through a judicial foreclosure process rather than an REO (real estate owned) property.

Conclusion: Hire a Tax Professional

If you are thinking of short-selling your home, you must know what you are getting into. Before starting, you need to be ready for the process and understand its implications.

That’s why the best solution is to hire tax professionals. They know how things work and what homeowners need to do to reduce tax penalties for a short sale. Moreover, hiring them is also essential to deal with legal complications, especially with the IRS.

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