Short Sale Wrinkle

By law they have to report it. They don't want to be in trouble with the IRS any more than you do. If debt is forgiven through foreclosure, that will be reported to the IRS and a 1099 issued as well.

But...

On December 20, 2009, President Obama signed this law, called the Mortgage Forgiveness Debt Relief Act. The law exempts forgiven mortgage debt from federal taxation up to $2 million. It applies only to principal residences, covers the amount of money taken out with the original loan used to purchase the property, and remains in effect through 2012.

As described in IRS Publication 4681, if your home has been foreclosed upon or you sold it through a short sale, your lender will send you a form 1099-C in January of the year following the mortgage termination. This form will report the debt amount that was forgiven. Attach IRS Form 982 to your tax return to exclude the debt from taxation.

http://www.ehow.com/info_###-###-####_foreclosure-short-s...

From what I understand, you could be in a similar situation with a foreclosure, depending on how much the bank gets at auction for your house. Technically, they can still come after you for the difference. Contact a real estate lawyer that specializes in foreclosures and short sales right away. There is a way to get around this, but you can't do it on your own, you need a lawyer's help.

It does mean it is added income. Yes, they certainly can do that. Your bankruptcy may affect how you are taxed on it. Talk to a tax professional to get that answer.

We sold our house in a short sale in Nov. of last year and, yes they will send you a 1099 form but you don't necessarily have to have it added to your income. Well, that's how it worked out in our situation anyway. As long as you lived in the house for at least 2 years during the 5 year period before the short sale. Here's some info from the irs website: http://www.irs.gov/individuals/article/0,,id=179414,00.html

We went through HR block, they sent us to a premiere one, I guess they handle special situations. Keep in mind that if it forecloses they may come after you for the difference of what it sells for at auction so it's probably better to go through with the short sale anyway. Good luck!

From what I understand, it is only taxable if it is not your original loan, meaning it is a re-fi, etc. No fun & the worst part is we as the homeowner pay $ & the banks that have already been given millions "to help" get extra sweet kick backs from the fed to short sale/steal homes rather than help families stay in them....which for what my 2 cents are worth, is only depressing the housing market even more, sad : ( Good luck & definitely talk to a real estate attorney or accountant.

We are in a similar pickle.
They can do it.
Short answer-you need to contact a lawyer. We were advised by our realator to contact an accountant or lawyer prior to the house being turned over to avoid this catch.
The banks play so dirty-when I think about it I can barely breathe.
We are shooting for a deed-in-lieu. Is that an option for you?
I'm sorry. This all really, really sucks.
From my understanding (which isn't great) foreclosure will wreck you far more than a short sale/deed-in-lieu.
I hope this helps a little.
Surely there is someone here can offer more help...
(Hugs)

I'm a real estate attorney and deal with short sales frequently. Everything that Meredith C. wrote in her response below is correct, so assuming it is the original loan on your principal residence, you won't have to pay tax on the forgiven debt. Stick with the short sale - it is better than the foreclosure. Good luck.

Your situation sounds tough...hang in there. 2 years ago we were trying to sell our house and at the time the market had just begun to really take a hard hit. We were looking at buying houses that were in foreclosure and short-sales. Our realtor told us the people selling there homes on short-sales would take a hit in the credit score department but that eventually they could recover BUT a foreclosure would always and forever be on someones credit history...maybe that has changed but if it were me I wouldn't want to take that chance. Best wishes as you get back on your feet!

You need to address these ?'s to your mortgage professional. I have one in my networking group and she has talked about this situation since last fall. The IRS has set up this law. There are more complications and details to learn if you took out a second mortgage.
You also need to talk to your tax professional as to how this is going to be handled on a tax return and what % you would have to pay.
A short sale does not ruin your credit. The laws just changed last fall about bankruptcy and foreclosure and how many years before you can purchase a house again.
My contact is Tammy Maranto at ###-###-####. She is on spring break this week with her kids - but this is her cell phone number.

You can also go to the IRS web site and ask questions / look up frequently asked ?'s there too.