1099 SHORT SALE REPORTING - IT'S THE LAW! - OR IS IT???

Article courtesy of Richard Zaretsky, Esq., RICHARD P. ZARETSKY P.A. ATTORNEYS AT LAW

Since I have developed my SHORT SALE law practice I have a lot of clients that are in foreclosure or close to it. They all ask me about 1099 reporting and if the bank can forgive the debt and not issue a 1099. Lots of blogs say that plenty of banks don't issue 1099's on forgiven debt. Others say that the law is that if the lender does not report, it is in trouble with the law. The General Instructions from the IRS applies penalties for not filing informational returns (such as 1099's).

Now let's see what the law really says.

Debt forgiveness triggers two types of requirements depending on the circumstances.

1099-C The 1099C is when there is a cancellation of debt. This would apply to the normal short sale, where the lender takes less than the amount of the mortgage debt so the house can be sold. If the lender does not pursue the borrower for the short fall, then the 1099C is to be issued by the lender to the borrower.

1099-A The 1099A is when there is an abandonment of property and cancellation of debt. This would apply to a deed in lieu of foreclosure or to a foreclosure sale where the possession of and obligation to maintain the property is transferred to or obtained by the lender, relieving the borrower of the continued obligation of the debt.

The requirement to issue the 1099-C or the 1099-A is an obligation of the lender. HOWEVER, FOR 2008 AND PRIOR YEARS, FAILURE TO FILE A 1099-C CARRIES NO PENALTY ACCORDING TO IRS INSTRUCTIONS. Penalties usually associated with the failure to report a 1099 are found in the General Instructions at Part O. It appears that the exception for non-reporting is only to apply to 1099-C.. The 1099-A for abandonment still carries the IRS penalties for non-reporting.

If a borrower is issued a 1099 A or C, that sum reported can all or partially be charged to the borrower as ordinary income. There are several ways to avoid the effect of the reporting of that ordinary income, but that is for another article.

So, for now at least the lenders are indeed free to cut deals NOT TO REPORT forgiven debt without a penalty to the lender.

It doesn't take a tough negotiator to get the deal for non-reporting in writing from the lender - it takes knowing the law and the rules as well as or better than your adversary. Now you know how to pull out the facts and slam dunk the lender's response that they have to report - "it's the law". But here is a caveat - not reporting income is a crime, so consider the consequences.

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