California  |  Tax Law

Legal Question

Asked on: 10/04/13, 4:39 pm

Our bank has decided to accept a short sale on our home curing our 1st mortgage, paying off part of our 2nd, $93,000 aprox, and forgiving the approx. $135,000 remaining on our 2nd; a home equity line.

The home was our qualified principal residence and we utilized all of the money from the home equity line to make substantial home improvements:

A Complete remodel

A New guest house

A New swimming pool

The mortgage forgiveness exclusion under IRS Sec 108(A)(1)(E) states:

"It does not apply to discharges of second mortgages or home equity loans "unless " the loan proceeds were used to acquire, construct or SUBSTANTIALLY IMPROVE THE TAXPAYERS PRINCIPAL RESIDENCE.

We have all receipts. Should we still be concerned about having to write a very large check to the IRS for the forgiven amount?

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