In 2007, Congress passed the Mortgage Forgiveness Debt Relief Act. The law allowed homeowners to sell their primary residences in “short sales”, or homeowners in foreclosure, to avoid adverse tax consequences as a result of their houses being underwater. Unfortunately, the Law expired on December 31, 2014. There is still hope that Congress may extend the law retroactively, but for the moment it appears that there could be adverse consequences to homeowners who short sell or lose their houses in foreclosure in 2015 or later. If you are in default on a mortgage on your primary residence and you are “underwater” on the loan, you should obtain tax advice from a knowledgeable CPA or Tax Lawyer. You also may want to seek bankruptcy advice. There would not be a taxable event to a homeowner who files a timely bankruptcy and discharges his or her obligation on the note which is secured by a mortgage. Your bankruptcy lawyer needs to discuss with you the deadlines to file a bankruptcy in order to discharge the note and avoid any taxable event.

According to the Federal Reserve Bank of New York, U.S. households increased what they owed by 1.1% in the last quarter of 2013. “The figures are scary because they show people are taking on more debt at a time when jobs are still uncertain,” said Linda Sherry of the advocacy group Consumer Action.

IRAs are normally exempt from creditors’ claims. Therefore, debtors in bankruptcy normally can keep their IRAs. However, if the owner of an IRA engages in any transaction prohibited under Sec 4975, the IRA may then lose its special tax benefits and the IRA may be subject to attachment. Thus, an improperly funded IRA may be taken from a debtor in bankruptcy. Section 4975 defines “prohibited transaction” to mean, among other things, any direct or indirect sale or exchange, or leasing, of any property between a plan and a disqualified person; lending of money or extension of credit between a plan and a disqualified person; furnishing of goods, services, or facilities between a plan and a disqualified person; Transfer to, or use by or for the benefit of, a disqualified person of the income or the assets of a plan; an act by a disqualified person who is a fiduciary who deals with the income or assets of a plan in his or her own account.  Also , inherited IRAs may not be exempt.

Often, people filing bankruptcy in the Middle District of Florida have “sink hole” claims pending on their homestead properties at the time that they file their bankruptcies. Several cases have been decided on whether debtors in bankruptcy are entitled to keep–or exempt– their rights to any future recovery of insurance proceeds under their homeowners policies. Generally, if the rights to future payments under a sink hole policy are limited to the repair costs to the debtors’ homestead property, then the rights to future proceeds are exempt from creditors.