California Short Sale and Foreclosure Update

Last Thursday State lawmakers passed SB 401 which will exempt borrowers who lost their homes to foreclosure or short sales in 2009 from paying state taxes.State officials say as much as 100,000 people statewide will be spared from paying tax they otherwise would owe.The bill extends the state ban from 2009 through the end of 2012. It also bans state taxes on federal stimulus grants for renewable energy projects.The bill still needs to be signed by Gov. Schwarzenegger, however a spokesman for the governor said he will sign the bill.

Who is affected:

Primarily, the bill affects people who had debt forgiven as they lost homes in foreclosures, short sales and deeds in lieu of foreclosure last year - and through 2012 now. Also affected: those who got loan modifications that cut the amount they owe the bank.The Franchise Tax Board says the tax forgiveness measure mostly applies to people who refinanced their homes to get better interest rates or extract equity, and then had a short sale or foreclosure where debt was forgiven.But the tax board also warned that refinanced dollars taken out as cash and spent on items other than home improvements may be taxable.

Who is not affected:

Those who bought houses and never refinanced before doing a short sale, loan modification or foreclosure are unaffected.   In most cases the banks just take back the houses. There is no forgiven debt, and no tax bill, said the tax board.Investors are also unaffected.  They still must pay state taxes on forgiven debt. The bill affects only people who live in their home.

What people should do now when filing their taxes:

The Franchise Tax Board says: "Once the governor signs this into law, California taxpayers will not have to do anything. If they qualify for federal relief on the mortgage debt forgiven, then they will also qualify for state income tax purposes. California Form 540 starts with federal adjusted gross income so there will be no adjustment necessary to properly reflect the state adjusted gross income amount for this issue."