LINDA KODY
Bill would bring relief

Realtors in Massachusetts and across the country are supporting legislation that would give a tax break to owners who are losing their homes.

The legislation, which the U.S. House of Representatives passed last Thursday by a 386-27 vote, would eliminate a tax code provision that forces homeowners to pay taxes on any mortgage debt that a lender has forgiven. It would apply to foreclosure sales, as well as short sales – transactions in which the homeowner, with the lender’s permission, sells the home for less than is owed.

The bill has been moved on to the Senate and referred to the Committee on Finance.

Under current law, if a home is sold at foreclosure or for less than the amount borrowed, that difference is taxed as income or gain.

“It just makes no sense that people in such dire circumstances would be faced with this double whammy,” said Mel Martocchia, owner of Martocchia & Company Realtors in Waltham.

The National Association of Realtors is pushing for the legislation at a time when foreclosure activity has spiked and home values have declined nationwide. The legislation also comes as interest rates on thousands – if not millions – of adjustable-rate mortgages are about to reset, driving more homeowners into foreclosure. Some groups estimate that rates on 2.3 million adjustable-rate mortgages will reset between 2007 and 2009.

In addition to NAR, groups like the National Association of Home Builders and the Association of Community Organizations for Reform Now, or ACORN, are backing the bill.

“We’re finding all these hundreds of thousands of borrowers who are losing their homes, and then to be taxed on top of it when they couldn’t afford to pay the mortgage is adding insult to injury,” said Chris Leonard, campaign director of the Massachusetts office of ACORN. “This is not real income; it’s phantom income.”

He added, “It’s just a quirk in the tax law that is hurting people who have often been victimized by predatory loans to begin with.”

Known as the Mortgage Cancellation Tax Relief Act, the House-approved legislation would apply only to homeowners selling principal residences, not rental or vacation properties. The legislation is projected to cost $1.38 billion over 10 years in lost tax revenue.

To offset the loss, the bill tightens tax rules that apply to homeowners who sell their primary residence and convert a second home – either a vacation or rental property – into their principal residence. Those property owners would face higher capital gains taxes when they ultimately sell the second home.

“The longer you use the second home as a principal residence, the greater the amount of total gain that you’ll be permitted to exclude,” explained Linda Goold, tax counsel for NAR.

Currently, homeowners can claim a home as a primary residence if they have lived in it for two of the five years before the sale. Sellers of such a residence can make up to $250,000 in profit, or $500,000 for married couples, and not be taxed on it.

Similar legislation was introduced in 1996. A version was approved by the House in 1999 and the Senate passed a bill in 2000, according to Goold, who explained that because of the strength of the housing market, there wasn’t a big push for legislation between 2001 and 2005.

‘An Awful Burden’

The latest version of the legislation, which was introduced in April, started gaining steam because of the housing market woes and the subprime mortgage meltdown. Movement on the bill started soon after Congress reconvened after Labor Day.

The bill is similar to legislation that was approved to give tax relief to homeowners living in areas ravaged by hurricanes Katrina and Rita.

“Congress recognized there were situations where you have to give people some tax relief for circumstances that are dreadful,” said Goold.

Goold said there is no controversy about the relief provision but some of the more conservative lawmakers have expressed concern that the legislation would be rewarding borrowers’ “bad behavior” for securing risky loans and falling behind on payments.

“There are people who are focused erroneously on the subprime aspect of this relief,” she said.

Goold noted, however, that the legislation also would benefit home sellers who haven’t fallen behind on mortgage payments but have to sell their property for less than they owe because of declining prices.

Linda Kody, a North Andover broker who lists foreclosure properties, said she believes the legislation would bring relief to struggling homeowners. She noted that some homeowners have steered clear from short sales, gone through with a foreclosure and then filed for bankruptcy in order to avoid a hefty tax debt.

“People are more afraid of the IRS than they are of a lender or ruining their credit,” Kody said.

Martocchia, the Waltham broker, said if it’s difficult for a homeowner to make a monthly mortgage payments, it’s unlikely he will be able to afford a tax.

“It seems like an awful burden to put on someone who’s faced with a tough situation to begin with,” he said.

The bill also includes a provision that would extend the deduction of private mortgage insurance for another seven years.

The Washington, D.C.-based Mortgage Bankers Association applauded the House’s approval of the legislation.

“Allowing the exclusion of forgiven mortgage debt from gross-income calculations will stop the unfortunate outcome of taxing phantom income for distressed borrowers, thus removing a penalty for consumers seeking this help from their mortgage lenders,” MBA Chairman John M. Robbins said in a prepared statement.