Mortgage Forgiveness Debt Relief Act Set to Expire in 2013 (VIDEO)

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Mortgage Interest Deduction

With the housing market trying hard to pick itself up off the canvas—and seeing positive signs, by the way—a looming deadline is making that market and the homeowners in it nervous. It’s the Mortgage Forgiveness Debt Relief Act of 2007, essentially a tax break for those hit hardest by the housing collapse.

If not renewed, this mortgage relief act will expire in 2013, triggering a big tax increase.

Who does this effect? If Congress fails to re-authorize the bill, homeowners will have to pay taxes on the part of their mortgage that may have been forgiven in the cases of foreclosure, a short sale, or a reduction in principal. Take a look at this short video:

For example, say you owed $200,000 on your home, and it ended up going for $150,000 at auction as part of foreclosure proceedings, the IRS could then tax you on that $50,000 difference.

And with 50,000 foreclosures each month, and the number of short sales tripling over the past three years, this tax hike would slam the housing market just as it struggles to make a comeback—a comeback many view as a necessary (if not sufficient) condition for a larger national economic recovery.

Furthermore, roughly one million borrowers will see their mortgage debt lowered through principal reductions in just the next couple of years, owing to a $25 billion foreclosure abuse settlement. This tax increase would smack them, too.

So, will Congress re-authorize the Mortgage Forgiveness Debt Relief Act?

It’s surprisingly (or maybe unsurprisingly) tough to say. With Congress now entering what’s called a “lame duck” session (the time between a decided election and the actual taking of office of new or re-elected members), the picture gets a bit more complicated.

It’s pretty rare for any significant legislation to move in such times—particularly after acrimonious races—with so little incentive on politicians’ part to make peace with the other side or strike deals for which they take no credit and may be against on principled grounds.

One stumbling block is the price-tag: a one-year extension of the bill would cost about $1.3 billion. Granted, that’s couch cushion cash for Congress, but small-ball differences derail bigger deals routinely. And with the so-called ‘fiscal cliff’ issue looming, it’s possible politicians may focus on even more consequential issues of spending and taxation.

While there’s broad agreement that the tax break is helping people, Washington hasn’t exactly been known for its level-headed approach to bipartisan compromise lately. Some are optimistic the hike will be averted, others aren’t so sure.

As always, Quizzologists will keep you posted.