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Posted by adam.dada on December 7th, 2007
Zion, IL
By A.B. Dada
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There’s talk of the Federal Congress working for a law that would remove the tax burden from the short sale of a home when the owner can’t make the mortgage, and can’t sell it for the remainder of the mortgage. What is happening now is the option of the mortgage lender to “gift” the difference between the mortgage value and the sale price of the home, with the lender optionally giving the borrower a 1099 for that price difference. If you have US$200,000 remaining on a loan, and the home short sells for US$150,000, the lender is gifting you US$50,000, and issuing you a 1099 since the gift is considered income.
If the bill passes, the lender will be unable to give you that 1099, which would supposedly “help” the short seller by not having the tax burden from such a big gift. While I am vehemently against the IRS and the Federal Income Tax at every level, this new proposal creates a loophole that I believe many wealthy people will use.
Picture this: You’re offered a new job earning US$100,000 per year. The employer is also offering you a US$50,000 bonus to sign on and leave your old job. A move of some sort may be required (not not necessarily). You’d be liable for US$150,000 in income towards your Federal income tax return for that year. If the tax-free short-sale gift proposal passes into law, this picture changes significantly for the intelligent.
Instead of taking the US$50,000 bonus and the US$100,000 income for the year, you could instead take a US$20,000 salary for one year (with a contractually guaranteed raise in year two to US$100,000), and have your boss loan you US$130,000 as a mortgage. Since your income that year is only US$20,000, there is no way for you to pay that mortgage back, so you could ask for forgiveness in the loan. Your employer would forgive the loan, which did put US$130,000 in your pocket, and you’d be tax free on the forgiven loan.
While I do feel the whole idea of being taxed on gifts is ridiculous (it’s not income, it’s a gift, generally paid for out of someone else’s after-tax income), this proposal will create this loophole, and possibly many others like it.
Instead of looking to help homeowners going through hard times with various government proposals, bailouts, and grants, how about ending the Federal income tax, reducing Federal government spending by an equal amount, and letting homeowners keep what they’re normally paying (sometimes as much as 20% of their gross income)? A 20% raise would quickly solve many homeowner mortgage dilemmas, possibly allowing some to pay down their mortgage to the point that they have equity in their home, at least enough to refinance into a fixed rate mortgage.
Nothing will help people who bought homes that their income can’t afford. Freezing rates will only push the problem off for a few years, but not lower prices to be affordable by others. We need a clean-sweep of the homeownership numbers, bringing home prices back down to 3-4X annual income. As is typical of all market bubbles, they’re created by government, and then they’re made worse when government tries to save people from bad investment and purchasing decisions. Also remember that many home loans today were financed by pension funds that invested in the mortgage market. By freezing rates, those pension funds could go from being worth little to being worthless. Who is going to bail those people out?
