Help for Financially Stressed Homeowners
Bay Area Tax Attorneys – To help financially distressed homeowners lower their monthly mortgage payments, the Dept. of the Treasury and the Dept. of Housing and Urban Development (HUD) established HAMP.
In appropriate cases, HAMP has been offering the Principal Reduction Alternative (PRA) as part of a HAMP loan modification since the last quarter of 2010. Current plans call for HAMP to continue accepting new borrowers through the end of 2013.
Mortgage Reduction – Where the borrower satisfies certain conditions during a trial period, the principal of the borrower’s mortgage may be reduced over three years by a predetermined amount called the “PRA Forbearance Amount.”
Trial Period – Before a loan modification becomes permanent, the borrower must meet certain conditions during a three-year trial period. If those conditions are met, the borrower will be offered a permanent modification of the terms of the mortgage loan. Until the effective date of a permanent modification, the terms of the existing mortgage loan continue to apply.
After the mortgage loan is permanently modified under HAMP, if the loan is in good standing on the first, second and third annual anniversaries of the effective date of the 3-year trial period, the loan servicer reduces the unpaid principal balance of the loan by one-third of the initial PRA Forbearance Amount on each anniversary date. Accordingly, if the borrower continues to make timely payments on the loan for three years, the entire PRA Forbearance Amount is forgiven.
Tax Consequences – The borrower realizes cancellation of debt income equal to any excess of the balance of the old mortgage loan (which was satisfied in the deemed exchange) over the issue price of the new (post-modification) mortgage loan.
Where the taxpayer qualifies, the cancellation of debt income can be excluded using either or both insolvency exclusion and/or principal residence acquisition debt relief exclusion. The latter exclusion is only available through 2013, unless further extended by Congress.
- When Income Is Realized – To the extent the cancellation of debt income cannot be excluded, the borrower may treat the cancellation of debt income as being realized in either of the following ways:(1) One hundred percent of the PRA Adjusted Forbearance Amount at the time of the permanent modification; or
(2) One-third of the PRA Adjusted Forbearance Amount on each of the first three annual anniversaries of the trial period plan effective date, when, as required by the terms of the new mortgage loan, the servicer reduces the unpaid principal balance of the new mortgage loan. If some or all of the reduction in the unpaid principal balance is accelerated because the HAMP-PRA borrower prepays the non-forbearance portion of the mortgage loan, then the HAMP-PRA discharge represented by the amount of the reduction that was accelerated is treated as being realized at the time of the accelerated reduction.
- Incentive Payments to Lenders – Incentive payments made by the HAMP administrator to mortgage lenders to encourage their participation in the program are treated as payments on the mortgage loans by the U.S. government on behalf of the borrowers. The borrower treats these payments as follows:o Personal residence – Under the “general welfare exclusion”, the borrower excludes the incentive payments from income if the property that is encumbered by the mortgage is used by the borrower as his principal residence or the property is occupied by his legal dependent, parent or grandparent without rent being charged or collected. No information return (1099) will be issued.
o Rental property – If the borrower uses the property as a rental, or it is vacant but available to be rented, the incentive payments made to the lender are includible in the borrower’s income in the year in which the payments are applied to the loan. The lender is obligated to issue a Form 1099-MISC reporting the amount.