A bill that would give homeowners facing foreclosure a tax break if their lender forgives part of their debt — and make up for the lost revenue by raising taxes on sales of some second homes — passed the House of Representatives Thursday.
HR 3648, the Mortgage Forgiveness Debt Relief Act of 2007, would also extend the deduction for private mortgage insurance to 2014, helping home buyers avoid high-interest piggyback loans.
“It is just not right or fair that families struggling through a foreclosure would then face a tax bill in addition to losing their homes when they have seen no increase in their net worth,” said the bill’s author, Rep. Charles Rangel, D-N.Y. in a statement. “This bill rights that wrong and provides tax relief to millions of American families.”
Although the bill enjoyed bipartisan support in the House — passing in a lopsided 386-27 vote — some of its provisions are expected to be subject to further debate as the Senate weighs similar legislation.
The Bush administration supports amending the tax code so that debt that’s forgiven as part of a foreclosure sale or loan modification isn’t classified as income by the IRS. But the change should be temporary, the administration maintains, and Congress should not meddle with the rules for claiming a second home, vacation or rental property as a primary residence for tax purposes.
Giving borrowers a tax break on forgiven debt will cost an estimated $1.38 billion over the next 10 years if the change isn’t temporary. Extending the deduction for private mortgage insurance is expected to reduce tax revenue by $570 million over 10 years.
To make up for the loss, HR 3648 would reduce the size of the deduction some owners of second homes can claim on the gains from a sale if it was once their primary residence.
Under current law, married couples can claim a deduction of up to $500,000 on the sale of a second home if it was their primary residence for two of the five years before the sale. HR 3648 would tie the size of the exemption to the number of years a home is used as a primary residence — raising an additional $2 billion in taxes in the next decade.
House Republicans were unable to amend HR 3648 to address the Bush administration’s concerns.
The administration says it will work to narrow the scope of the bill as the Senate considers similar legislation. Any differences between the two bills would have to be reconciled before they are sent to the president to be signed into law.
SB 1394, as introduced by Michigan Democrat Debbie Stabenow in May, would amend the tax code to exempt forgiven debt from being counted as income, but does not address private mortgage insurance or raise taxes. The bill has been referred to the Senate Committee on Finance.
Mortgage Bankers Association Chairman John Robbins said extending the deduction for mortgage insurance premiums lowers the cost of a mortgage for low- and moderate-income borrowers, and urged the Senate to follow the House’s lead.
Borrowers who engage in workouts with lenders “should not have to face a tax bill on the phantom income that results from debt forgiveness,” Robbins said in a statement. “I hope the Senate recognizes the importance of this legislation and moves quickly to get it to the president’s desk.”
The MBA expressed reservations about another bill that would allow bankruptcy judges to modify the terms of a loan when a borrower declares bankruptcy. That bill, HR 3609, has been referred to the House Judiciary Committee.
Kurt Pfotenhauer, who tracks governmental affairs and public policy for the MBA, said allowing judges to rewrite mortgage terms would cast doubt on the value of mortgage-backed securities that are used to finance home lending, further destabilizing the market for those securities and exacerbating “the serious credit crunch.” Borrowers would end up paying higher fees, a higher interest rate or be required to come up with a larger down payment, Pfotenhauer said in a statement.