Discussion:A bit confused on 1099A for a rental property

Client has 1099A for a rental property;
Box 2 principle outstanding - 240,000
Box 4 FMV - 70,000
Box 5 personnaly liable - Yes

Basis of property is 239,000

I know 170,000 (income from cancellation of debt) would be picked up as ordinary income on Sch E. But would the sale price be 70,000 on the 4797 ... resulting in a recognized loss of 169,000?

I was always under the impression the only thing picked up was taxable ordinary income whenever one receives a 1099A.

Sales price is 240 and includes the debt foregiveness. Run the entire transaction through 4797, including any recapture.

This transaction will result in an approximate "breakeven" 240-239.

All of my previous comments were based on the scenario in the original post.

A foreclosure sale is a sale by the taxpayer. The amount in the FMV box was the amount of the successful bid on the property. This amount is the amount that should be appearing on Form 4797 unless the debt is nonrecourse.

The timing of the COD income is really based on the state law in which you practice. For example, if you are practicing in AZ or CA, the COD income is usually recognized on the date of the nonjudicial foreclosure sale - regardless of when the 1099-C is issued.

Also, as cancellation of debt- this property is a rental property and the taxpayer is insolvent by $1m. Per pub 4681, I presume I can exception anyway cancelled debt income with the $1m in insolvency. True?

Background... client bought 6-7 properties all in 2006-2007 at the peak of the market with nothing down.

Even though you did not receive a 1099-C, since there was a foreclosure you report the difference in the FMV and the amount owed on line 21 of the 1040.

You will also report the deemed sale of the property. The gain or loss is the FMV (in your case) minus your adjusted basis (cost minus depreciation plus capital improvements), and reported on Schedule D.

Anyone know if it is OK to copy and paste something from another source like I did above.

1. 1 - Should I override the FMV in box #4 on the 1099a to reflect what appears on county appraisers website? From $100 to $43,000

1. 2 Cancelation of debt - excludable to extent of invsolvency?

1. 3 Loss from foreclosure of rental property to be reported on f-4797 Part I?

The 1099-A appears to be an acknowledgement from the lender that property has been obtained in partial satisfaction of a debt. It is not an acknowledgement of the CANCELLATION of the debt, which would require the use of 1099-C. The question then arises as to whether the taxpayer has COD income merely as a result of the foreclosure and receipt of the 1099-A. I would strongly argue that there is no cancellation of debt ("COD") tax liability UNLESS AND UNTIL lender is barred by law from pursuing the deficiency.

Example: Investment property in Nevada. Loan balance $500k. Property FMV $400k. Lender forecloses in 2009. Sends borrower 1099-A for $100k, that being the difference between the loan balance and the FMV at the time of the foreclosure. Does borrower have COD income? No. The foreclosure does not cancel the underlying debt. At best, Borrower gets a credit against the outstanding balance. Lender has a right to pursue the deficiency of $100k for 6 years because Nevada doesn't have an anti-deficiency statute that protects Borrower from this, and the statute of limitations on claim for breach of a written agreement (the written contract being the Promissory Note that backstops the security instrument) is 6 years. That debt is not cancelled until one of two things happens: Lender SAYS it's forgiven, or the debt is extinguished by some other operation of law. As long as Lender has a legal right to pursue that deficiency that debt is not "cancelled."

Same hypo, except put the property in California and assume a non-judicial foreclosure. The most important consequence of this is that the Lender is barred from pursuing the deficiency, and it doesn't matter whether they send Borrower a 1099-A, 1099-C or nothing at all. California Code of Civil Procedure section 580d bars a deficiency after a trustee's sale, which means the debt is "cancelled" as a matter of law, which means that Borrower has a potential COD tax issue at that moment in time. (Putting aside the insolvency exception.) Because Lender's right to a deficiency is terminated on the day its trustee's deed is recorded, then that is the day that the debt is "cancelled," and (I would argue) that is the day on which the FMV of the property and the COD are fixed for tax purposes. And what if the Lender makes a full credit bid at the trustee's sale? There is NO COD because the FMV is fixed by California law as the amount bid by the Lender. (Cornelison v. Kornbluth (1975) 15 Cal.3d 590.) If, in our hypo, Lender bids the amount of the debt, $500k, then under the Cornelison rule, Lender has been made whole and there can't be any cancellation of debt because there is no more debt.

This is REALLY important stuff for you tax pros out there to grasp because this is going to be a HUGE issue in the next 3 to 5 years. It means that the investigation when a client has had investment property foreclosed, on but hasn't filed bankruptcy, is going to have to dig deeper and will require the taxpayer to know a lot more than they usually do.

Some questions that follow from this:

1. Does the issuance of a 1099-C constitute an admission that a debt is forgiven? In other words, if Lender issues a 1099-C and then sues Borrower for the deficiency, can the 1099-C be used as evidence that the debt isn't due?

2. What is the Borrower's tax liability if there has only been a 1099-A and not a 1099-C? I would argue that there is no tax liability at all until the issuance of the 1099-C, and even that can be rebutted in other ways.

3. Why does borrower/taxpayer get stuck with Lender's estimate of the FMV of the property on the 1099-A? Borrower is entitled to credit for the full sale price that bank gets after foreclosure.

And, by the way, I am not talking about the taxpayer's reporting obligation regarding the initial 1099-A on his 1040 somehow, that is a different issue altogether. But I think it's critical to understand that the receipt of a 1099-A does not give rise to a tax obligation, and may never.

One question. I thought that in California, since an original purchase mortgage on residential property must be non - recourse, that a foreclosure was treated as a sale for the balance of the mtg and there was no COD income.

Is this just true if it goes through a judicial foreclosure? Is a non -judicial foreclosure on a non recourse loan treated the same as it would have been if the loan was a recourse loan? In a short sale or non judicial foreclosure is there any difference in tax treatement between recourse and non recourse loans? Thanks, I do struggle with this stuff.