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Forgiven mortgage debt relief in the Mortgage Forgiveness Debt Relief Act of 2007

Mortgage insurance will continue to be deductible after 2007, thanks to a key provision in the recently enacted Mortgage Forgiveness Debt Relief Act of 2007. The new law extends the mortgage interest deduction, which was set to expire at the end of 2007, for three years (through 2010). Here is a brief overview of this potentially valuable deduction.

Financing a home with a small down payment. When you buy a house, lenders consider you a riskier borrower if you make a down payment of less than 20%. There are two main ways to make you pay for that risk: mortgage insurance and piggyback loans. Mortgage insurance is insurance that is paid for by the borrower, but the lender is the beneficiary. If the borrower falls behind on the loan payments and the lender has to foreclose, the mortgage insurance policy reimburses the lender for legal costs and lost income. The premiums depend on the size of the loan, the percentage of the down payment, the borrower's credit score and the type of mortgage insurance the borrower gets.

Alternatively, a borrower with less than the 20% down payment needed to avoid a mortgage insurance requirement might be able to make use of a second mortgage (sometimes referred to as a piggy-back loan) to make up the difference. One advantage of using a piggy-back arrangement was that under prior (pre-2007) law, mortgage interest payments were deductible on the borrower's income taxes, whereas mortgage insurance premiums were not.

How the mortgage interest deduction works. Under the deduction that was originated in 2007 and has now been extended for three years (through 2010), taxpayers can treat amounts paid during the year for qualified mortgage insurance as home mortgage interest and thus deductible. The insurance must be in connection with home acquisition debt, the insurance contract must have been issued after 2006, and the taxpayer must have paid the premiums for coverage in effect during the year. Qualified mortgage insurance is mortgage insurance provided by the Department of Veterans Affairs, the Federal Housing Administration, or the Rural Housing Service, and private mortgage insurance (as defined in section 2 of the Homeowners Protection Act of 1998 as in effect on December 20, 2006).

Mortgage insurance provided by the Department of Veterans Affairs is commonly known as a funding fee. If provided by the Rural Housing Service, it is commonly known as a guarantee fee. The funding fee and guarantee fee can either be included in the amount of the loan or paid in full at the time of closing. These fees can be deducted fully in the year the mortgage insurance contract was issued.

Premiums for qualified mortgage insurance that are properly allocable to periods after the close of the tax year are treated as paid in the period to which they are allocated. No deduction is allowed for the unamortized balance if the mortgage is satisfied before its term (except in the case of qualified mortgage insurance provided by the Department of Veterans Affairs or Rural Housing Service).

There are income limits on the deduction. You can get the full deduction if your adjusted gross income is $100,000 or less ($50,000 if your filing status is married filing separately). The amount you can deduct phases out rapidly after that, and no mortgage insurance deduction is available if you make more than $109,000 ($54,500 if married filing separately).

WILL THE AMT DELAY YOUR REFUND?

Tax relief is on the way for volunteer firefighters and emergency medical responders, thanks to a little publicized provision in the recently enacted Mortgage Forgiveness Debt Relief Act of 2007. The new law creates an income tax exclusion for qualified state or local tax benefits (such as reduction or rebate of state or local income or property tax) and qualified reimbursement payments (up to $360 a year) granted to members of qualified volunteer emergency response organizations (e.g., state or local organizations whose members provide volunteer firefighting or emergency medical services (EMS)). The new exclusion will apply for the 2008 through 2010 tax years. Following is a brief overview of this new provision.

Reasons for tax relief. Many cities and towns in our country depend for their safety on volunteer firefighters and emergency first responders. To help recruit and retain volunteers, some localities offer incentives like property tax abatements to volunteer firefighters, search-and-rescue teams, emergency medical technicians, paramedics and ambulance drivers.

In 2002, volunteer benefits took a hit when the IRS ruled that reductions or rebates of taxes by state or local governments on account of services performed by members of qualified volunteer emergency response organizations are taxable income to the taxpayers receiving these reductions or rebates of taxes. Taxing these benefits reduced their value as an incentive and created a significant administrative burden on small municipalities and townships.

Specifics on the new law. Under the new legislation, these benefits are tax free. In technical jargon, the new law provides that any qualified state or local tax benefit provided to members of qualified voluntary emergency response organizations (e.g., volunteer firefighters and EMS personnel) on account of their volunteer services is excluded from the member's gross income. This exclusion covers any rebate or reduction of state or local income taxes, real property taxes, or personal property taxes. In addition, the new law allows volunteer firefighters and EMS personnel to exclude from income any qualified payments provided by a state or local government as reimbursement for expenses incurred in connection with their performance of voluntary emergency response services. The amount determined as a qualified payment for any tax year cannot exceed $30 multiplied by the number of months during the year that the taxpayer performs the services. The Act carries provisions to deny double tax benefits for excluded amounts.

The hope is that with these new incentives, volunteer numbers will rise nationwide. The new provisions take effect beginning in 2008 and are scheduled to expire at the end of 2010.

Tax relief for volunteer responders in the Mortgage Forgiveness Debt Relief Act of 2007

Contained in the flurry of legislation passed by Congress at the end of 2007—including the Mortgage Forgiveness Debt Relief Act of 2007, the Tax Technical Corrections Act of 2007, the Energy Independence and Security Act of 2007 and the Virginia Tech Victim's Relief Act—were measures that included new or revised payroll and tax penalty provisions. Here is a quick overview of the payroll and penalty provisions in the new law.

Partnership failure to file penalty increased. Under pre-Mortgage Relief Act law, any partnership required to file a return for any year, which failed to file on time (including extensions) or whose return failed to show the information required, was liable for a monthly penalty equal to $50 times the number of persons who were partners during any part of the tax year, for each month or fraction of a month for which the failure continued. However, the total penalty could not be imposed for more than five months. The Mortgage Relief Act extends the period for calculating the monthly failure-to-file-penalty for partnership returns from 5 to 12 months and increases the per-partner penalty amount from $50 to $85 per partner, effective for returns required to be filed after Dec. 20, 2007. Note also that under the Virginia Tech Victim's Relief Act, for tax years beginning in 2008 only, the dollar amount per partner is increased by $1. Thus, for tax years beginning in 2008, the per-partner penalty for failure to file a partnership return is $86.

New failure to file penalty for S corporation returns. Under pre-Mortgage Relief Act law, there was no penalty for failure to file an S corporation return. The Mortgage Relief Act imposes a monthly penalty for any failure to timely file an S corporation return or any failure to provide the information required to be shown on such a return, effective for returns required to be filed after Dec. 20, 2007. The penalty, assessed against the S corporation, is $85 times the number of shareholders in the S corporation during any part of the tax year for which the return was required, for each month (or a fraction of a month) during which the failure continues, up to a maximum of 12 months.

Penalty for substantial and gross valuation misstatements attributable to incorrect appraisals. In the 2006 Pension Protection Act, a penalty was added for substantial and gross valuation misstatements attributable to incorrect appraisals. That legislation omitted to apply the penalty with respect to substantial valuation understatements for estate and gift tax purposes. The Tax Technical Corrections Act of 2007 clarifies that the penalty applies for such purposes. The 2006 Pension Protection Act made another omission in the cross references for the penalty where the language relating to the time period for assessment of the penalty was not properly described. The new legislation corrects that error by providing that the penalty for valuation misstatements attributable to incorrect appraisals is subject to a 3-year limitation period.

FUTA surtax extended through 2008. The Federal Unemployment Tax Act (FUTA) imposes a 6.2% gross tax rate on the first $7,000 paid annually by covered employers to each employee, consisting of a permanent tax rate of 6%, and a temporary surtax rate of 0.2%. Under pre-Energy Act law, the temporary surtax only applied through the end of 2007. Under the Energy Act, the temporary surtax rate (which amounts to $14 per worker) is extended through Dec. 31, 2008. Thus, the FUTA rate remains at 6.2% through the end of 2008.

Designated Roth contributions are subject to FICA. Beginning in 2006, plan sponsors have been able to offer their employees the ability to make after-tax 401(k) contributions where earnings are not usually taxed on distribution. These contributions are called “Roth contributions.” The Tax Technical Corrections Act of 2007 clarifies that Roth contributions are subject to FICA taxes (i.e., Social Security and Medicare) at the time they are made.

I hope this information is helpful. If you would like more details about these provisions or any other aspect of the new laws, please do not hesitate to call.

Very truly yours,

Mortgage insurance deduction extended for three years in the Mortgage Forgiveness Debt Relief Act of 2007

Addressing the sub-prime lending crisis, Congress recently passed and the President signed into law a new measure giving tax breaks to homeowners who have mortgage debt forgiven. Under preexisting law, the debt forgiven by a lender, such as for short sales and refinances, was generally taxable to the borrower as debt discharge income. With the passage of the Mortgage Forgiveness Debt Relief Act of 2007, a taxpayer does not have to pay federal income tax on up to $2 million of debt forgiven for a loan secured by a qualified principal residence. The change in the tax law applies to debts discharged from January 1, 2007 to December 31, 2009. Here are the details.

Discharge of indebtedness income: background. For income tax purposes, a discharge of indebtedness—that is, a forgiveness of debt—is generally treated as giving rise to income that's includible in gross income. However, a discharge of indebtedness doesn't give rise to gross income if it: (1) occurs in a Title 11 bankruptcy case, (2) occurs when the taxpayer is insolvent, (3) is a discharge of qualified farm indebtedness, or (4) is a discharge of qualified real property business indebtedness.

Under pre-2007 Mortgage Relief Act law, there were no special rules applicable to discharges of acquisition debt on the taxpayer's principal residence. For example, assume a taxpayer who isn't in bankruptcy and isn't insolvent owns a principal residence subject to a $200,000 mortgage debt for which the taxpayer has personal liability. The creditor forecloses and the home is sold for $180,000 in satisfaction of the debt. Under pre-2007 Mortgage Relief Act law, the debtor had $20,000 of debt discharge income. The result was the same if the creditor restructured the loan and reduced the principal amount to $180,000.

New law relief provision. The 2007 Mortgage Relief Act excludes from a taxpayer's gross income any discharge of indebtedness income by reason of a discharge (in whole or in part) of qualified principal residence indebtedness before Jan. 1, 2010. The exclusion applies where taxpayers restructure their acquisition debt on a principal residence or lose their principal residence in a foreclosure. For example, assume the same facts as in the example above except that the discharge occurs in 2008. Under the 2007 Mortgage Relief Act, the debtor has no debt discharge income when the creditor (1) restructures the loan and reduces the principal amount to $180,000 or (2) forecloses with the result that the $200,000 debt is satisfied for $180,000.

Here is some of the critical fine print in this new relief provision:

o The tax relief applies to the original purchase price, plus improvements, of the taxpayer's principal residence. It doesn't apply to discharges of second mortgages or home equity loans, unless the loan proceeds were used to acquire, construct, or substantially improve the taxpayer's principal residence. Refinanced indebtedness qualifies to the extent it doesn't exceed the amount of indebtedness being refinanced. (Cash out from refinancing doesn't qualify for the exclusion.)

o The indebtedness must be incurred with respect to the taxpayer's principal residence only. The exclusion rule doesn't apply to second homes, vacation homes, business property, or investment property, since these properties aren't the taxpayer's principal residence.

o The relief provision is not a permanent fixture of the tax code. It only applies to forgiveness during 2007, 2008, or 2009.

o Nontaxable forgiven mortgage debt is capped at $2 million ($1 million for married individuals filing separately).

o When the relief provision applies, the basis of the individual's principal residence is reduced by the amount excluded from income. As a result of this basis reduction rule, the discharged indebtedness is, at least technically, subject to taxation at a later time, when the taxpayer sells or exchanges the principal residence. However, in many cases the reduction won't result in any additional tax, because any gain on that sale or exchange will qualify for the $250,000 ($500,000 for married couples filing jointly) home-sale exclusion.

Please keep in mind that this is only a summary of this important tax relief provision. If you would like more details about this change, or any other aspect of the new law, please do not hesitate to call.

Northwest Accounting & Tax Service Vancouver, WA

		Helpful Links: IRS Homepage Washington Dept of Revenue
	The following features Highlight Tax Law changes that may affect your 2007 Tax Return Forgiven mortgage debt relief in the Mortgage Forgiveness Debt Relief Act of 2007 Mortgage insurance will continue to be deductible after 2007, thanks to a key provision in the recently enacted Mortgage Forgiveness Debt Relief Act of 2007. The new law extends the mortgage interest deduction, which was set to expire at the end of 2007, for three years (through 2010). Here is a brief overview of this potentially valuable deduction. *Financing a home with a small down payment.* When you buy a house, lenders consider you a riskier borrower if you make a down payment of less than 20%. There are two main ways to make you pay for that risk: mortgage insurance and piggyback loans. Mortgage insurance is insurance that is paid for by the borrower, but the lender is the beneficiary. If the borrower falls behind on the loan payments and the lender has to foreclose, the mortgage insurance policy reimburses the lender for legal costs and lost income. The premiums depend on the size of the loan, the percentage of the down payment, the borrower's credit score and the type of mortgage insurance the borrower gets. Alternatively, a borrower with less than the 20% down payment needed to avoid a mortgage insurance requirement might be able to make use of a second mortgage (sometimes referred to as a piggy-back loan) to make up the difference. One advantage of using a piggy-back arrangement was that under prior (pre-2007) law, mortgage interest payments were deductible on the borrower's income taxes, whereas mortgage insurance premiums were not. *How the mortgage interest deduction works.* Under the deduction that was originated in 2007 and has now been extended for three years (through 2010), taxpayers can treat amounts paid during the year for qualified mortgage insurance as home mortgage interest and thus deductible. The insurance must be in connection with home acquisition debt, the insurance contract must have been issued after 2006, and the taxpayer must have paid the premiums for coverage in effect during the year. Qualified mortgage insurance is mortgage insurance provided by the Department of Veterans Affairs, the Federal Housing Administration, or the Rural Housing Service, and private mortgage insurance (as defined in section 2 of the Homeowners Protection Act of 1998 as in effect on December 20, 2006). Mortgage insurance provided by the Department of Veterans Affairs is commonly known as a funding fee. If provided by the Rural Housing Service, it is commonly known as a guarantee fee. The funding fee and guarantee fee can either be included in the amount of the loan or paid in full at the time of closing. These fees can be deducted fully in the year the mortgage insurance contract was issued. Premiums for qualified mortgage insurance that are properly allocable to periods after the close of the tax year are treated as paid in the period to which they are allocated. No deduction is allowed for the unamortized balance if the mortgage is satisfied before its term (except in the case of qualified mortgage insurance provided by the Department of Veterans Affairs or Rural Housing Service). There are income limits on the deduction. You can get the full deduction if your adjusted gross income is $100,000 or less ($50,000 if your filing status is married filing separately). The amount you can deduct phases out rapidly after that, and no mortgage insurance deduction is available if you make more than $109,000 ($54,500 if married filing separately). WILL THE AMT DELAY YOUR REFUND? Tax relief is on the way for volunteer firefighters and emergency medical responders, thanks to a little publicized provision in the recently enacted Mortgage Forgiveness Debt Relief Act of 2007. The new law creates an income tax exclusion for qualified state or local tax benefits (such as reduction or rebate of state or local income or property tax) and qualified reimbursement payments (up to $360 a year) granted to members of qualified volunteer emergency response organizations (e.g., state or local organizations whose members provide volunteer firefighting or emergency medical services (EMS)). The new exclusion will apply for the 2008 through 2010 tax years. Following is a brief overview of this new provision. *Reasons for tax relief.* Many cities and towns in our country depend for their safety on volunteer firefighters and emergency first responders. To help recruit and retain volunteers, some localities offer incentives like property tax abatements to volunteer firefighters, search-and-rescue teams, emergency medical technicians, paramedics and ambulance drivers. In 2002, volunteer benefits took a hit when the IRS ruled that reductions or rebates of taxes by state or local governments on account of services performed by members of qualified volunteer emergency response organizations are taxable income to the taxpayers receiving these reductions or rebates of taxes. Taxing these benefits reduced their value as an incentive and created a significant administrative burden on small municipalities and townships. *Specifics on the new law.* Under the new legislation, these benefits are tax free. In technical jargon, the new law provides that any qualified state or local tax benefit provided to members of qualified voluntary emergency response organizations (e.g., volunteer firefighters and EMS personnel) on account of their volunteer services is excluded from the member's gross income. This exclusion covers any rebate or reduction of state or local income taxes, real property taxes, or personal property taxes. In addition, the new law allows volunteer firefighters and EMS personnel to exclude from income any qualified payments provided by a state or local government as reimbursement for expenses incurred in connection with their performance of voluntary emergency response services. The amount determined as a qualified payment for any tax year cannot exceed $30 multiplied by the number of months during the year that the taxpayer performs the services. The Act carries provisions to deny double tax benefits for excluded amounts. The hope is that with these new incentives, volunteer numbers will rise nationwide. The new provisions take effect beginning in 2008 and are scheduled to expire at the end of 2010. Tax relief for volunteer responders in the Mortgage Forgiveness Debt Relief Act of 2007 Contained in the flurry of legislation passed by Congress at the end of 2007—including the Mortgage Forgiveness Debt Relief Act of 2007, the Tax Technical Corrections Act of 2007, the Energy Independence and Security Act of 2007 and the Virginia Tech Victim's Relief Act—were measures that included new or revised payroll and tax penalty provisions. Here is a quick overview of the payroll and penalty provisions in the new law. *Partnership failure to file penalty increased.* Under pre-Mortgage Relief Act law, any partnership required to file a return for any year, which failed to file on time (including extensions) or whose return failed to show the information required, was liable for a monthly penalty equal to $50 times the number of persons who were partners during any part of the tax year, for each month or fraction of a month for which the failure continued. However, the total penalty could not be imposed for more than five months. The Mortgage Relief Act extends the period for calculating the monthly failure-to-file-penalty for partnership returns from 5 to 12 months and increases the per-partner penalty amount from $50 to $85 per partner, effective for returns required to be filed after Dec. 20, 2007. Note also that under the Virginia Tech Victim's Relief Act, for tax years beginning in 2008 only, the dollar amount per partner is increased by $1. Thus, for tax years beginning in 2008, the per-partner penalty for failure to file a partnership return is $86. *New failure to file penalty for S corporation returns.* Under pre-Mortgage Relief Act law, there was no penalty for failure to file an S corporation return. The Mortgage Relief Act imposes a monthly penalty for any failure to timely file an S corporation return or any failure to provide the information required to be shown on such a return, effective for returns required to be filed after Dec. 20, 2007. The penalty, assessed against the S corporation, is $85 times the number of shareholders in the S corporation during any part of the tax year for which the return was required, for each month (or a fraction of a month) during which the failure continues, up to a maximum of 12 months. *Penalty for substantial and gross valuation misstatements attributable to incorrect appraisals.* In the 2006 Pension Protection Act, a penalty was added for substantial and gross valuation misstatements attributable to incorrect appraisals. That legislation omitted to apply the penalty with respect to substantial valuation understatements for estate and gift tax purposes. The Tax Technical Corrections Act of 2007 clarifies that the penalty applies for such purposes. The 2006 Pension Protection Act made another omission in the cross references for the penalty where the language relating to the time period for assessment of the penalty was not properly described. The new legislation corrects that error by providing that the penalty for valuation misstatements attributable to incorrect appraisals is subject to a 3-year limitation period. *FUTA surtax extended through 2008.* The Federal Unemployment Tax Act (FUTA) imposes a 6.2% gross tax rate on the first $7,000 paid annually by covered employers to each employee, consisting of a permanent tax rate of 6%, and a temporary surtax rate of 0.2%. Under pre-Energy Act law, the temporary surtax only applied through the end of 2007. Under the Energy Act, the temporary surtax rate (which amounts to $14 per worker) is extended through Dec. 31, 2008. Thus, the FUTA rate remains at 6.2% through the end of 2008. *Designated Roth contributions are subject to FICA.* Beginning in 2006, plan sponsors have been able to offer their employees the ability to make after-tax 401(k) contributions where earnings are not usually taxed on distribution. These contributions are called “Roth contributions.” The Tax Technical Corrections Act of 2007 clarifies that Roth contributions are subject to FICA taxes (i.e., Social Security and Medicare) at the time they are made. I hope this information is helpful. If you would like more details about these provisions or any other aspect of the new laws, please do not hesitate to call. Very truly yours, Mortgage insurance deduction extended for three years in the Mortgage Forgiveness Debt Relief Act of 2007 Addressing the sub-prime lending crisis, Congress recently passed and the President signed into law a new measure giving tax breaks to homeowners who have mortgage debt forgiven. Under preexisting law, the debt forgiven by a lender, such as for short sales and refinances, was generally taxable to the borrower as debt discharge income. With the passage of the Mortgage Forgiveness Debt Relief Act of 2007, a taxpayer does not have to pay federal income tax on up to $2 million of debt forgiven for a loan secured by a qualified principal residence. The change in the tax law applies to debts discharged from January 1, 2007 to December 31, 2009. Here are the details. *Discharge of indebtedness income: background.* For income tax purposes, a discharge of indebtedness—that is, a forgiveness of debt—is generally treated as giving rise to income that's includible in gross income. However, a discharge of indebtedness doesn't give rise to gross income if it: (1) occurs in a Title 11 bankruptcy case, (2) occurs when the taxpayer is insolvent, (3) is a discharge of qualified farm indebtedness, or (4) is a discharge of qualified real property business indebtedness. Under pre-2007 Mortgage Relief Act law, there were no special rules applicable to discharges of acquisition debt on the taxpayer's principal residence. For example, assume a taxpayer who isn't in bankruptcy and isn't insolvent owns a principal residence subject to a $200,000 mortgage debt for which the taxpayer has personal liability. The creditor forecloses and the home is sold for $180,000 in satisfaction of the debt. Under pre-2007 Mortgage Relief Act law, the debtor had $20,000 of debt discharge income. The result was the same if the creditor restructured the loan and reduced the principal amount to $180,000. *New law relief provision.* The 2007 Mortgage Relief Act excludes from a taxpayer's gross income any discharge of indebtedness income by reason of a discharge (in whole or in part) of qualified principal residence indebtedness before Jan. 1, 2010. The exclusion applies where taxpayers restructure their acquisition debt on a principal residence or lose their principal residence in a foreclosure. For example, assume the same facts as in the example above except that the discharge occurs in 2008. Under the 2007 Mortgage Relief Act, the debtor has no debt discharge income when the creditor (1) restructures the loan and reduces the principal amount to $180,000 or (2) forecloses with the result that the $200,000 debt is satisfied for $180,000. Here is some of the critical fine print in this new relief provision: o The tax relief applies to the original purchase price, plus improvements, of the taxpayer's principal residence. It doesn't apply to discharges of second mortgages or home equity loans, unless the loan proceeds were used to acquire, construct, or substantially improve the taxpayer's principal residence. Refinanced indebtedness qualifies to the extent it doesn't exceed the amount of indebtedness being refinanced. (Cash out from refinancing doesn't qualify for the exclusion.) o The indebtedness must be incurred with respect to the taxpayer's principal residence only. The exclusion rule doesn't apply to second homes, vacation homes, business property, or investment property, since these properties aren't the taxpayer's principal residence. o The relief provision is not a permanent fixture of the tax code. It only applies to forgiveness during 2007, 2008, or 2009. o Nontaxable forgiven mortgage debt is capped at $2 million ($1 million for married individuals filing separately). o When the relief provision applies, the basis of the individual's principal residence is reduced by the amount excluded from income. As a result of this basis reduction rule, the discharged indebtedness is, at least technically, subject to taxation at a later time, when the taxpayer sells or exchanges the principal residence. However, in many cases the reduction won't result in any additional tax, because any gain on that sale or exchange will qualify for the $250,000 ($500,000 for married couples filing jointly) home-sale exclusion. Please keep in mind that this is only a summary of this important tax relief provision. If you would like more details about this change, or any other aspect of the new law, please do not hesitate to call.