Debt cancellation, form 982, Mortgage Debt Relief Act

[winner104]

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I may be completing a short-sale on my home in the next few months. I know that the balance owed on my first mortgage will be forgiven and that it qualifies under the Mortgage Debt Relief Act as exempt taxable income, so I will NOT have to pay taxes on that amount next tax season if I fill out form 982.

Will attempt to settle with lender/servicer on my 2nd mortagage, which is a home equity loan that I used to pay off cc debt and personal loans several years ago. I do NOT believe that it qualifies as being exempt under the above Act because I did not use it improve or build upon my townhome in any way. Does that sound correct? Another poster on another forum told me otherwise. They said that my 2nd should still qualify......

Reading thru the Mortgage Debt Relief Act, I think that I WILL qualify as insolvent. The way I read it, that means that I WILL be able to exempt my second mortgage from being taxed. Am I on the right track?

I will definitely consult a tax attorney before I make any moves or sign anything, but any advice would be much appreciated.

[Skyhawk]

Forgiveness of debt on a "qualified principal residence" qualifies for relief from taxation. See tax code section 108(a)(1)(E). "Qualified principal residence indebtedness" is defined in code section 163(h)(3)(B) as "acquisition indebtedness" which is defined as indebtedness used to acquire, construct, or substantially improve a principal residence. Paying off credit card debt and other bills not related to "substantially improving" your principal residence would NOT qualify for relief from taxation. Section 108 does provide for relief if debt is forgiven by a Bankruptcy Court, or to the extent that you are "insolvent" as defined by section 108. See a tax professional like a CPA or Enrolled Agent with experience in this complicated tax issue.