New Law: California Won't Tax Forgiven Debt

A new law signed by Governor Arnold Schwarzenegger on Monday will provide relief for some homeowners in distress. Senate Bill 401 eliminates the state tax on debt forgiven by banks in a short sale, loan modification or foreclosure.


Before the law was passed, homeowners were responsible to pay taxes on "phantom income" -- the difference between the original loan amount and the amount the property sold for in a short sale or foreclosure. That phantom income ruled also applied to the moneys forgiven in a loan modification.

The new state law brings California in line with federal tax rules. The federal government has long forgiven some types of forgiven debt on a primary residence.

The forgiveness only applies to loans used to purchase a primary residence. It will apply to some refinances, as long as the refinance was used to replace the original loan. It applies only to debt discharged from 2009 thru 2012.

Tax payers who do not qualify under the provisions of SB 401 may still be exempt from paying taxes on forgiven debt under other provisions. It is important to discuss the implications of a loan modification, short sale or foreclosure with your tax accountant and/or attorney.

Home Prices Continue to Improve

Home prices in the United States continue to improve, according to the latest Standard and Poors/Case-Shiller Home Price Indices released this week. The report measured prices through January on two composites, a 10-city composite and a 20-city composite. Both composites showed annual home price improvement.


As of January 2010, home prices nationwide averaged levels similar to those of autumn of 2003. The report shows steady improvement in home prices since April of 2009 and the latest numbers are the best seen since 2007.

According to the report, home prices in San Diego were up 0.1% from December to January and a one year increase of 5.9%. Many real estate experts look at San Diego as a forecaster of the overall market. Most experts agree that the real estate market in California bottomed out in February of 2009.