Thanks to the Mortgage Forgiveness Debt Relief Act of 2007, homeowners who have had mortgage debt forgiven (canceled)—perhaps through a loan modification, foreclosure, or short sale—usually don't owe federal income tax on that forgiven debt come tax time.

To learn about the tax implications of forgiven debt and whether you can exclude forgiven mortgage debt from your taxable income on your tax return, read on. (If you're interested in reading about foreclosure and mortgage modifications, visit Nolo's Foreclosure section. And, for more information on dealing with debt, check out Nolo's Debt & Collection Agencies topic .)

Canceled Debt Is Usually Taxed as Income

Ordinarily, when $600 or more of debt is forgiven or canceled by a creditor, the amount that has been forgiven is considered income for federal tax purposes, whether the debt is a mortgage or another kind of credit. That means you must report the amount of the canceled (or forgiven) loan on your tax return and pay taxes on it, just like any other kind of income. The amount of the loan is considered income only once it's forgiven—and not when you first borrowed the money. (When it's clear you won't be repaying the money you received, tax law recognizes the money as income.)

The Mortgage Forgiveness Debt Relief Act of 2007

To keep financially strapped homeowners from taking a second hit at tax time, Congress passed the Mortgage Forgiveness Debt Relief Act of 2007. What this means for taxpayers is that, if part or all of your mortgage debt on your principal residence is forgiven, you might be able to exclude as much as $2 million of that forgiven debt from your taxable income.

Extensions over the years. The Act was originally scheduled to sunset in 2010, but was extended through 2012 by the Emergency Economic Stabilization Act of 2008. It was extended again (through 2013) by the fiscal cliff legislation in early 2013. And then the law was extended again on December 19, 2014, as part of the Tax Increase Prevention Act, to include debt forgiven through 2014. It was later extended for a fourth time to apply to debt forgiven in calendar years through 2016, as well as debt discharged in 2017 if there was a written agreement entered into in 2016.

Mortgage Forgiveness Debt Relief Act extended again. On February 9, 2018, President Trump signed the Bipartisan Budget Act of 2018. One provision of the law extended the time period of the Mortgage Forgiveness Debt Relief Act to include indebtedness that is discharged before January 1, 2018, and to written discharge agreements executed before January 1, 2018. So, the exclusion applies to debt forgiven in calendar years through 2017, as well as debt discharged in 2018 if there was a written agreement entered into in 2017.

Can You Get Tax Relief for Your Forgiven Mortgage Debt?

If some or all of your mortgage debt has been forgiven by your lender, will you be able to get out of paying income tax on that forgiven debt under the Mortgage Forgiveness Debt Relief Act of 2007?

Here are the key factors to remember.

• Only mortgage debt forgiven sometime in the calendar years (not tax years) 2007 to 2017 (or 2018 if you entered into a written agreement in 2017) qualifies under the Act.
• The forgiven debt must have been incurred to purchase, build, or make significant renovations to your principal residence (not a vacation home or a property you rent out to others). The IRS jargon for this kind of debt is "qualified principal residence indebtedness."
• Qualifying debt can include mortgages that were reduced through modification or restructuring or mortgage debt that has been canceled altogether through foreclosure.
• Proceeds from refinanced debt will qualify for exclusion from income only if those proceeds were used to make significant renovations or improvements to your principal residence—not to make purchases or pay other bills.
• If your forgiven mortgage debt qualifies, you can exclude up to $2 million of the amount of the debt ($1 million if you are married and filing separately).
• You can find out the exact amount of mortgage debt that's been forgiven by looking at any paperwork sent by your lender. Specifically, look for a notice called "Form 1099-C: Cancellation of Debt."
• If your forgiven debt qualifies under the Mortgage Forgiveness Debt Relief Act of 2007, even though the debt will be excluded from your income and you won't need to pay income taxes on it, you still need to report the forgiven debt to the IRS (on Form 982) as part of your tax return.
• Whether the tax exclusion will be extended yet again is anybody's guess, though based on history, it seems likely.

The IRS has more information about the Mortgage Forgiveness Debt Relief Act of 2007 and instructions for taxpayers at www.irs.gov. And, for more tips on getting your tax return together this year, visit Nolo's Personal Income Taxes section.

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