Gain from Foreclosure

July 26, 2011

Not every foreclosure is a loss for the homeowner; under certain circumstances a small number of individuals may realize a gain from foreclosure.  Because a foreclosure is treated as a sale for tax purposes, there may be taxable gain to report as a result of the foreclosure. If the property was used as the principal residence for at least two years during the five-year period ending on the date of foreclosure, up to $250,000 (up to $500,000 for married couples filing jointly) can be excluded from income. If the taxpayer does not qualify for this exclusion, or if the gain is more than the exclusion amount, then the gain should be reported on Schedule D as a capital gain.

Gain from foreclosure is calculated by comparing the fair market value of the property to the adjusted basis (purchase price plus cost of any major improvements) in the property.   If the fair market value or debt amount is greater than the basis, then there is a gain on the foreclosure.  That gain is reportable unless the taxpayer qualifies for the exclusion.

For more examples and details on the tax implications of foreclosure, you can consult IRS Publication 4681 (Canceled Debts, Foreclosures, Repossessions, and Abandonments).  At Wallace & Associates, it’s our mission to provide all of your taxation and accounting needs, and have the latest information to keep you compliant and timely with filings.