Mortgage Forgiveness Debt Relief Act of 2007

Earlier this week I had a conversation with an accountant who was asking me about people who were selling their houses in short sales. We discussed the increase of this in the St. Louis area and he suggested that he put together some information that my clients might find helpful regarding the Mortgage Forgiveness Debt Relief Act of 2007. Here is the letter in its entirety.

August 15, 2008

Dear friend:

With the economy in its current challenged state, coupled with the real estate market and its issues, there has been a lot of activity regarding foreclosures, short sales, and debt restructuring. I continue to get a lot of questions regarding the tax consequences for home owners in these situations. The rules have changed in this area. Under the old rules, forgiveness of debt could trigger taxable income for the person being relieved of debt. The new rules drastically help taxpayers needing forgiveness of debt associated with their primary residences, but it only applies to debts discharged from January 1, 2007 to December 31, 2009. With the Mortgage Forgiveness Debt Relief Act of 2007, a taxpayer does not have to pay federal income tax on up to $2 million of debt forgiven for a loan secured by a qualified principal residence. More details are highlighted below.

Discharge of indebtedness income: background

For income tax purposes, a discharge of indebtedness (“forgiveness of debt”) is generally treated as taxable income. However, a discharge of indebtedness doesn’t trigger gross income if it: (1) occurs in a Title 11 bankruptcy case, (2) occurs when the taxpayer is insolvent, (3) is a discharge of qualified farm indebtedness, or (4) is a discharge of qualified real property business indebtedness.

Before the 2007 Mortgage Relief Act, there were no special rules applicable to discharges of acquisition debt on the taxpayer’s principal residence. For example, assume a taxpayer who isn’t in bankruptcy and isn’t insolvent owns a principal residence subject to a $200,000 mortgage debt for which the taxpayer has personal liability. The creditor forecloses and the home is sold for $180,000 in satisfaction of the debt. Under old rules, the debtor had $20,000 of debt discharge income.

Current law relief provision

The 2007 Mortgage Relief Act excludes from a taxpayer’s gross income any discharge of indebtedness income by reason of a discharge (in whole or in part) of qualified principal residence indebtedness before January 1, 2010. The exclusion applies where taxpayers restructure their acquisition debt on a principal residence or lose their principal residence in a foreclosure.

Here is some of the critical fine print in this new relief provision:

• The tax relief applies to the original purchase price, plus improvements, of the taxpayer’s principal residence. It doesn’t apply to discharges of second mortgages or home equity loans unless the loan proceeds were used to acquire, construct, or substantially improve the taxpayer’s principal residence. Refinanced indebtedness qualifies only to the extent it does not exceed the amount of indebtedness being refinanced. (Cash out from refinancing will not qualify for the exclusion.)

• The indebtedness must be incurred specifically in respect to the taxpayer’s principal residence. The exclusion rule does not apply to second homes, vacation homes, business property, or investment property since these properties are not the taxpayer’s principal residence.

• The relief provision is not a permanent fixture of the tax code. It only applies to forgiveness during 2007, 2008, or 2009.

• Nontaxable forgiven mortgage debt is capped at $2 million ($1 million for married individuals filing separately).

• When the relief provision applies, the tax basis of the individual’s principal residence is reduced by the amount excluded from income. As a result of this basis reduction rule, the discharged indebtedness is technically subject to taxation at a later time. However, in many cases the reduction will not result in any additional tax because any gain on that sale or exchange will qualify for the $250,000 ($500,000 for married couples filing jointly) home-sale exclusion.
  

Please keep in mind that this is only a summary of this important tax relief provision. If you would like more details about this change, or any other aspect of the new law, please do not hesitate to call. Keep in mind that every taxpayer’s situation is different and should be analyzed with his or her tax advisor and counsel to determine what applies for the given circumstances.

Best regards,

HOFFMAN CLARK, LLC

Bryan Shaw, CPA

www.hoffmanclark.com

FHA Lifts 90 Waiting Period

In a move to help get foreclosures off the books of lenders quicker and help avoid deterioration of properties that have been foreclosed upon the Department of Housing and Urban Development has lifted their ban on writing a contract if the title has changed in the past 90 days. See the following article: http://www.cnbc.com/id/25146122

For further clarification you can visit HUD’s website at http://www.hud.gov/news/release.cfm?content=pr08-082.cfm

For questions or comments please contact Chris Scheer at cscheer@cornerstonestl.com or 314.223.9824.

Declining Markets

As the foreclosures and short sales begin to take effect on the housing market one of the single biggest changes that is occurring is the dreaded “Declining Market” label attached to a property in the appraisal. I have seen investors make the predetermination that certain zip codes, cities and counties are in declining markets and thus they are lowering their exposure by reducing the maximum loan on the properties in that area. Other investors have said that they will only apply declining market guides if the appraisal states that the property is in a declining market. Either way, when the declining market rules come into play, the only person that loses is the borrower.

Here are a few examples:

· The borrower is planning on putting only 5% down to purchase the property and the investor has deemed that entire zip code to be a declining market. They will only lend on the property if the buyer puts 10% down.

· An investor is planning to purchase a home with 10% down and the appraiser notes that the property is in a declining market. Now the investor has to put 15% down to get the loan.

In both cases if the borrower has the additional 5% it is an inconvenience, but the transaction will still go forward. But if the borrower does not have the additional 5%, then the deal is dead. In most cases the seller has lost valuable days marketing their property while the waiting for the buyer to get loan commitment.

Now that we know the challenges this brings I will discuss the inadequacy of how this is applied in my next post.

Manufactured Housing

So why is it so hard to get a loan for a manufactured house? Over the past month I have had the opportunity to work a loan that was on manufactured house that had been repossessed by HUD. The client came to me saying they wanted to buy this house without having sold their current home so they could have time to fix it up before moving in. The borrower was self-employed and he felt his tax returns would not support him owning 2 homes. Based upon his excellent credit I told him we had a way to do the loan if he put 10% down. We would allow him to state his income and then when he sold his current home and was ready to pay down the mortgage on the new home we would refinance him. Things were going along swimmingly until the file hit underwriting. Even though the guidelines I had for the investor said they would do a conventional loan using stated income on a manufactured home, the information the underwriter had said otherwise. At this point most loan officers would take a pass and deny the loan. I chose to switch the loan to an FHA loan and ask the borrower for the documentation to support the income needed.

When I met with the client and reviewed their tax returns I found that they did indeed have enough income for two houses. I will be the first to admit that I made the mistake of not taking charge initially and getting all the documentation upfront and being the expert. Instead I let the client lead me down a path that was a dead end. We switched the appraisal to an FHA appraisal and requested that the realtor change the contract to an FHA contract. The listing agent, being a representative for HUD said that if the loan went FHA a work escrow would be required to repair some items they had found when they did their walkthrough after repossessing the house. The work escrow seemed minimal and the client agreed to fund the work escrow themselves.

In the meantime I contacted our investors to see who would purchase an FHA loan on a manufactured home. I found one of our investors that were willing to purchase the loan and then we sent it to their underwriters. As luck would have it, they denied the loan because it had a work escrow. Now we were in a quandary, we couldn’t do an FHA loan on a HUD repo because there was a work escrow required and we couldn’t go conventional stated with the first investor because they wouldn’t do a loan on a manufactured home. So now, I am sure most loan officers would have told the clients that they could not help them. However, I realized that the realtor involved was counting on the commission from the sale and the borrowers were truly buying a great home for them to retire to. There had to be a way to get the loan done!

We then switched back to a conventional loan and found just 1 of our investors that would purchase a conventional loan on a manufactured home. This investor had some strict guidelines on the information needed on the appraisal, including the HUD Plate and the Manufactures serial number, make, model and year manufactured. In reviewing the appraisal we found that the appraiser did have the HUD Plate information but was lacking the rest of the required information. For 2 weeks we kept asking the appraiser for this information. He continually said that it was not available. The night prior to the loan closing I googled the term “HUD Plate and on the third website showing in the search I found the information for the IBTS, a company that who will get the information for you that was needed if you have the HUD Plate information; http://www.ibts.org/faq_consumer.htm. They charge a $50 fee for normal processing or for a rush they charge $75. We faxed them the form and had the information within 2 hours. We then gave the information to the appraiser for him to add to the appraisal. By 1:00 that day we were clear to close and the borrowers had their new home.

If you can tell me why a home that is manufactured but is permanently attached onto a foundation with a basement is any different than the quickly built subdivision houses that are thrown up across the country I would be happy to learn. Contact Chris Scheer at cscheer@cornerstonestl.com or 314.223.9824.

Downpayment Assistance Rule

For the past few years, FHA has allowed charitable non-interested parties to supply the down payment to a borrower on FHA loans. Unfortunately, this practice caused housing prices to be inflated as the seller would raise their price and then contribute the increase to the charity as a donation. The charity would then give a gift to the borrower and thus have the down payment for a home with an FHA mortgage. The challenge is that the borrower had no vested interest in the house and when times got tough it was easy for them to walk away since they would be losing nothing other than a home with an inflated price. Selling the home was difficult in a flat or declining real estate market. This practice is one of the logs on the bonfire of the mortgage industry that is burning across our nation. Here is the latest on this practice:

FHA will issue official guidance regarding implementation of the regulation regarding a mortgagor’s cash investment. In the interim, to address the questions raised by many industry partners, FHA is providing the following information:

1. Nehemiah Corporation of America, due to a previous Settlement Agreement and as discussed in the rule, is granted relief from the effective date of the rule until April 1, 2008.

2. HUD has agreed to grant the AmeriDream Downpayment Assistance Program relief from the effective date of the rule until February 29, 2008.

3. All other similar downpayment assistance providers have not been granted relief from the effective date of the rule, which is October 31, 2007.

Provided that the homebuyer has entered into a contract of sale (including any amendments to purchase price) on or before October 31, 2007, FHA will recognize the gift if made to the homebuyer and properly documented as an acceptable source of the downpayment.

To read the final rule in its entirety and for more information please visit: http://hudclips.org/sub_nonhud/cgi/pdf/4846a.pdf

For questions or comments please contact Chris Scheer at cscheer@cornerstonestl.com or 314.223.9824.

What is the Delay?

Here we are, one week after the announcement by the President to try to help homeowners who are struggling, http://www.foxnews.com/story/0,2933,295369,00.html

Yet not one investor, i.e., Chase, GMAC, Countrywide, Citi Mortgage, or any of the other major national mortgage banks is ready to start selling these loans. Who is going to step up to the plate to start rescuing homeowners? Right here in St. Louis there are over 600 properties in St. Louis City and County that are for sale from Foreclosure. That number has tripled in the last 6 months. We are at the beginning of the problem. At that rate, next March we will have over 1800 homes for sale that have been foreclosed upon.

If we are a snapshot of the country, why are the major mortgage banks dragging their feet?

Most people in the industry know that HUD will insure these loans, however until HUD gives written guidelines no one is will to stick their neck out and originate a loan that may not be insured. Meanwhile, people who are late on their mortgages continue to struggle with the situation. Most are taking the ostrich approach and burying their head in the sand hoping the problem will go away. While they do this their credit gets worse and their credit scores continue to fall. The guidelines that HUD will issue will dictate a minimum credit score, so while HUD drags their feet, scores are falling and people that should get relief won’t due to governmental and political delays.

I Challenge the top executives at the major mortgage banks to step up and use common sense. We all know about what the guidelines will be. Start originating these loans and let’s start helping people. You may end up with a few loans that can’t be insured, but how many people will be helped? How much goodwill will be created? How much will your servicing portfolios increase in value as you help stop the decline of delinquencies? So what if you end up with a few million in loans that you can’t sell. Get them to perform for a year and then refinance them out of the loan that wasn’t insurable. It will cost you less than what it will to have to foreclose!

Income for Life

When every door closes a window opens. The rash of foreclosures brought on by people taking out loans that they were not able to comprehend or not able to afford is creating a huge opportunity for people to purchase investment property. As more and more people are forced from their homes, those people have to live somewhere, why not be there landlord. In fact, most of the people want to own their own home, and hopefully they have learned the lesson that exotic mortgages are not the way to finance a home, especially for the first time homebuyer. How wonderful would it be if you could buy a home out of foreclosure, rent the home to someone with a lease option and then sell the house to them in two or less years?

With the “Income for Life” program you can do just that. I have a Realtor here in the St. Louis area that specializes in helping you get started on your path to owning investment property. Visit http://www.rent2ownlistings.com/MO-StLouis-West/homepage.aspx to learn more about this concept!

Special Thanks to Kip and Jackie Poling for being a repeat customer!

By the way, I am never to busy for a referral from you!