A Government Accountability Office (GAO) report released on Sept. 30 found that a beefed-up information reporting system could aid IRS in dealing with compliance challenges regarding forgiven mortgage debt. (GAO-10-997) As described in the report, the Mortgage Forgiveness Debt Relief Act of 2007, and its three-year extension, allows taxpayers to generally exclude from taxable income forgiven mortgage debt used to buy, build, or substantially improve a principal residence. It was first estimated that the exclusion of forgiven mortgage debt from taxable income may result in about $968 million in federal revenue losses from fiscal years 2008-2013. Updated estimates put the revenue losses for that period at anywhere between $1.4 billion to $1.9 billion. "Some taxpayers with forgiven mortgage debts may be bankrupt or insolvent," GAO said, adding that "others are not and therefore may have the ability to pay taxes on forgiven mortgage debts." IRS estimates suggest the dollar amount of forgiven mortgage debt excluded from income could be significant. The agency estimates that for tax year 2008, between 126,000 to 169,000 returns included a Form 982 (Reduction of Tax Attributes Due to Discharge of Indebtedness) that excluded a total of anywhere from $15.2 billion to $24.6 billion of forgiven debt from taxable income. IRS estimates suggest that for about 61,000 to 93,000 of the returns with a Form 982, forgiven debt for a qualified principal residence was the only type of forgiven debt, and taxpayers excluded about $6.4 billion to $11.8 billion from taxable income. Additionally, because taxpayers excluding multiple types of debt from income are only required to report the total amount being excluded and not the amount for each individual type, IRS lacks data to determine the dollar amount of forgiven mortgage debt excluded for these taxpayers. "IRS faces several compliance challenges in administering this complicated tax provision," GAO said. There are potential difficulties in trying to collect additional taxes on forgiven debts, particularly when taxpayers are already insolvent and defaulting on debts. This is one of the factors affecting IRS's decisions about allocating resources for enforcing this provision, the report noted. "However, there is evidence some taxpayers have the ability to pay additional tax if owed, and certain housing market data show that the potential for significant noncompliance with the exclusion of forgiven mortgage debt exists," GAO said. For example, vacation home and investment property purchases accounted for an estimated 40% of home sales in 2005 and 27% in 2009. Current IRS forms provide limited information on mortgage debt forgiveness and IRS is not making full use of all available data, the report said.
The GAO report is available at http://www.gao.gov/new.items/d10997.pdf.
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