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Home Foreclosures: 10.7.4.4 Disputed or Contingent Debts

Debt that was never owed or for which repayment was contingent on some future event does not generate COD income upon discharge. For example, the release of a guarantor does not generate COD income to the guarantor.512 Similarly, if a statute voids the debt, the IRS will generally permit the discharge of that debt to be excluded from income.513 Thus, the reduction in principal due to a successful Truth in Lending rescission claim should not be included in income.

Home Foreclosures: 10.7.4.6 Purchase Price Infirmity Doctrine

A purchase price reduction is not taxable income if property is bought at an inflated price on credit, and the originating lender or assignee lowers the indebtedness as a direct result of a legitimate argument contesting the purchase price, provided the borrower did not participate in any fraud in agreeing to the purchase price originally.525

Home Foreclosures: 10.7.4.7.2 Ordering rule for home equity debt

A discharge in the case of refinanced home mortgage debt will normally consist of mixed acquisition indebtedness (the principal amount of the old loan) and home equity debt (the fees and remaining principal on the new loan, possibly including such items as consolidated credit card debt).

Home Foreclosures: 10.7.4.7.3 Government payments to reduce principal

The now expired Home Affordable Modification Program (HAMP) Principal Reduction Alternative (PRA) is one example of a program that provides government payments to help reduce a homeowner’s principal. This reduction in principal are excluded from income under the general welfare exclusion.538 The general welfare exclusion excludes from income payments under government social benefit programs for the promotion of the general welfare and not for services rendered.539

Home Foreclosures: 10.7.5.1 Overview

When a taxpayer receives a Form 1099-C, the taxpayer, their attorney, tax return preparer, or accountant must make an independent analysis, distinct from that performed by the creditor, about whether the discharge must be included as part of the taxpayer’s gross income, or whether one of the exclusions applies. If the discharged debt is inadvertently included by the taxpayer as income, it will be subject to tax.

Home Foreclosures: 10.7.5.3 Preventing Submission of a Form 1099-C

A settlement agreement involving debt forgiveness should address whether the creditor will submit a Form 1099-C and in what amount. Settlement agreements should also establish any basis for excluding the discharged debt from income. For example, if the consumer will seek to exclude the discharged debt as qualified principal residence indebtedness, the settlement agreement should specify that the debt is being discharged because of the taxpayer’s financial condition or because of a decline in the property value.

Home Foreclosures: 10.8.1.4 Fannie Mae and Freddie Mac Mortgages

Both Freddie Mac and Fannie Mae have announced programs to rent foreclosed properties. Fannie Mae may offer existing tenants month to month or term leases at market rate rent.607 Certain tenants may have a right under state law to remain in their home under the current lease.

Home Foreclosures: 10.8.1.5 FHA-Insured Mortgages

After foreclosure of an FHA-insured mortgage, HUD has the discretion to accept conveyance of a property occupied by a tenant or former homeowner.611 Though HUD generally discourages an occupied conveyance of the property, a tenant or former homeowner may be allowed to temporarily reside in the property if they sign a month-to-month lease and pay the fair market rent, as determined by HUD.612 An individual occupying the property may qualify based on a temporary, permanent, or long-term illness or

Home Foreclosures: 10.8.2.1 Overview

Before enactment of the Protecting Tenants at Foreclosure Act (PTFA), tenants relied on a variety of state and local laws to shield them from eviction. During the COVID-19 pandemic, state, local governments, and courts adopted a number of emergency measures to protect tenants from displacement. The measures suspended evictions, including post-foreclosure evictions of all tenants or tenants who suffered a hardship related to COVID-19 that led to a loss of income.

Home Foreclosures: 10.8.2.2. The Significance of When the Lease Commenced

The two key predictors under state law as to whether a tenant has rights to remain in the foreclosed property are whether the lease was executed before or after the mortgage and whether a foreclosure is judicial or non-judicial.630 If a lease was consummated prior to creation of the mortgage, the lease generally is treated as not extinguished by the foreclosure, in both judicial and non-judicial foreclosure states.631 This is so because the foreclosure purchaser acquires no greater interest than

Home Foreclosures: 10.8.2.3 State “Good Cause” Eviction Statutes

A few states and localities have enacted statutory provisions which limit the grounds on which tenants may be evicted, notwithstanding the expiration of the tenant’s lease.641 These statutes are referred to as “good cause” eviction statutes. Absent a good cause eviction statute, a tenant can generally be evicted for any reason or no reason. The only restrictions are those contained in the lease. Typically, permissible reasons for eviction include failure to pay rent, breach of a lease, or the commission of an illegal act in the rental unit.

Home Foreclosures: 10.8.2.4.1 In general

The legal rights of tenants occupying foreclosed properties are traditionally governed by state and local laws. The permanent extension of the federal Protecting Tenants at Foreclosure Act (PTFA) in May 2018, has provided a nationwide floor for such protections. State and local laws remain a critical source of protection for tenants after foreclosure as many of these laws secure greater protections for tenants than those outlined in the federal PTFA.651 Some of the most important protections are summarized below.

Home Foreclosures: 10.8.2.4.4 Disclosure of foreclosure to prospective tenants

Many homeowners facing foreclosure rent out their homes to supplement their income and help them qualify for a loan modification. But when loan modification efforts fail and the foreclosure process begins, the tenants find themselves facing eviction and, potentially, the loss of the last month’s rent and security deposit. Some states and municipalities enacted legislation to protect these tenants by requiring the homeowner to disclose any pending foreclosure to prospective tenants.

Home Foreclosures: 10.8.2.4.5 Utility shutoffs

When a landlord stops paying the mortgage, utility payments are frequently discontinued, leading to utility shutoffs during the foreclosure process and/or after a foreclosure sale. California,697 Maine,698 and Minnesota699 enacted legislation to provide tenants notice of an impending shutoff and to allow tenants to transfer the utility accounts to the tenants’ name without requiring the payment of arrearages.

Home Foreclosures: 10.8.2.4.6 Security deposits

Because a tenant pays their security deposits to the former landlord at lease origination, and not to the purchaser at foreclosure, security deposits are often not returned, making a tenant’s transition to alternative housing after foreclosure much more difficult. States have addressed this problem in a variety of ways. California702 expressly holds the purchaser liable for the return of the security deposit, even if the purchaser never received the deposit.

Home Foreclosures: 10.8.2.4.7 Sealing eviction records

Securing new housing is often difficult, but quickly locating a rental home or apartment with an eviction on your record can be almost impossible.705 States such as California,706 Illinois,707 New York,708 and Minnesota709 recognized that tenants evicted because of foreclosure are not at fault, and that their evictions should not prevent or hinder these

Home Foreclosures: 10.8.2.4.8 “Cash-for-keys”

Because of notice to quit periods, tenants often feel coerced to accept “cash-for-keys” offers, even when the offer does not include the tenants’ security deposit or moving expenses. Chicago and Connecticut have moved to regulate “cash-for-keys” offers.