CRS Updates Analysis of Mortgage Indebtedness Exclusion

During 2007, the rate of foreclosures and mortgage defaults has been rising to new levels. As lenders and borrowers work to resolve indebtedness issues, some transactions are resulting in cancellation of debt. Mortgage debt cancellation can occur when lenders restructure loans, reducing principal balances, or sell properties, either in advance, or as a result, of foreclosure proceedings. If a lender forgives or cancels such debt, current tax law treats it as cancellation of debt (COD) income subject to tax. There are exceptions for taxpayers who are insolvent or in bankruptcy, among others -- these taxpayers may exclude canceled mortgage debt income under existing law.

The Mortgage Forgiveness Debt Relief Act of 2007 (H.R. 3648), which was passed by the House and Senate in December 2007 and signed into law on December 20, 2007, temporarily excludes qualified COD income. Thus, the act would allow taxpayers who do not qualify for the existing exceptions to exclude COD income. The provision is effective for debt discharged before January 1, 2010. Other legislation proposing similar relief had also been introduced (H.R. 1876, H.R. 3506, H.R. 3996, and S. 1394).

A rationale for excluding canceled mortgage debt income has focused on minimizing hardship for households in distress. Policymakers have expressed concern that households experiencing hardship and possibly losing their homes, presumably as a result of financial distress, should not incur an additional hardship by being taxed on canceled debt income. Some analysts have also drawn the connection between minimizing hardship for individuals and consumer spending; reductions in consumer spending, if significant, can lead to recession. Additionally, legislators have been pursuing Federal Housing Authority (FHA) and governmentsponsored enterprise (GSE) reform efforts, in part to alleviate the current mortgage crisis. As efforts to minimize the rate of foreclosure are being made, lenders are, in some cases, renegotiating loans with borrowers to keep them in the home. For some policymakers, the exclusion of canceled mortgage debt income may be a necessary step to ensure that homeowner retention efforts are not thwarted by tax policy.

Opponents of an exclusion for canceled mortgage debt income might argue that the provision would make debt forgiveness more attractive for homeowners relative to current tax law and could encourage homeowners to be less responsible about fulfilling debt obligations.

Congress may or may not choose to enact an exclusion for canceled mortgage debt income. If this choice is made, the question arises as to whether an exclusion should be granted for all homeowners. Alternatively, the exclusion could be limited. Limits could be placed on such things as the amount of income excluded, the type of households eligible to claim the exclusion, and the type of canceled debt eligible to be excluded. Finally, the provision could be temporary rather than permanent.

This report will be updated in the event of significant legislative changes.

 Contents

Proposals have been made to exclude canceled mortgage debt income from taxation. The rationales for these proposals are to minimize hardship for households in distress and to ensure that non-tax-related homeowner retention efforts are not thwarted by tax policy. Critics could argue that the exclusion could encourage homeowners to be less responsible about fulfilling debt obligations.² Critics may also argue that owner-occupied housing is sufficiently subsidized even without a COD income exclusion.

This report provides an overview and analysis of the current tax treatment of canceled debt income, describes the proposal included in H.R. 3648, and concludes with a discussion of policy options.

Cancellation of Indebtedness Income

When all or part of a taxpayer's debt is forgiven, the amount of the canceled debt is ordinarily included in the taxpayer's gross income.³ This income is typically referred to as cancellation of debt (COD) income. The borrower will realize ordinary income to the extent the canceled debt exceeds the value of any cash or property given to the lender in exchange for cancelling the debt. Lenders report canceled debt to the Internal Revenue Service (IRS) using Form 1099-C, and borrowers must generally include the amount in gross income in the year of discharge.

Exceptions. Under current law, there are several exceptions to the general rule that canceled debt is included in the gross income of the borrower. Section 108 of the Internal Revenue Code (IRC) contains two exceptions that are particularly relevant in the case of canceled home mortgage debt: a borrower may exclude canceled debt from gross income if (1) the debt is discharged in Title 11 bankruptcy or (2) the borrower is insolvent (that is, has liabilities that exceed the fair market value of his or her assets, determined immediately prior to discharge).⁴

In the case of the bankruptcy exception, the debt must be discharged by the court overseeing the bankruptcy proceedings or pursuant to a plan approved by that court.⁵ No involvement by a court is necessary for a taxpayer to claim an insolvency exception -- the taxpayer calculates his or her assets and liabilities to determine whether he or she is insolvent. For an insolvent taxpayer, the amount of COD income that may be excluded is limited to the amount by which the taxpayer is insolvent.⁶

For both the bankruptcy and insolvency exceptions, a taxpayer who excludes canceled debt must essentially give back some of the benefit of the exclusion. Specifically, the taxpayer must reduce certain beneficial tax attributes, including basis in property, that would otherwise decrease the taxpayer's income or tax liability in future years.⁷ The attributes are reduced until the reductions generally account for the excluded amount. As a result of the attribute reduction, the taxpayer may be subject to tax on the excluded COD income in years following the year of discharge -- in other words, the tax on the COD income is deferred.

In addition to the IRC § 108 exclusions, there are several other circumstances under which COD income may be excluded. For example, a taxpayer with nonrecourse, as opposed to recourse, debt⁸ will not realize COD income.⁹ Other examples of when COD income may be excluded from the borrower's income are if the cancellation was intended to be a gift¹⁰ or was the result of a disputed debt.¹¹

Gain From the Disposition of Property

When an individual sells property, the excess of the sales price over the original cost plus improvements (adjusted basis) is normally gain subject to tax.¹² If the property was held for more than 12 months, the gain is taxed at a maximum rate of 15% rather than the regular income tax rates. If the property was held for less than 12 months, the gain is taxed at the regular income tax rates.

In situations involving canceled home mortgage debt, if the lender takes the home in exchange for the debt cancellation, the homeowner realizes gain from the disposition of property in the amount that the property's fair market value (or the amount of outstanding debt, in the case of nonrecourse debt) exceeds the taxpayer's adjusted basis in the property.¹³ A taxpayer may have both gain from the disposition of property and COD income.

IRC § 121 provides an exclusion for gain from the sale or disposition of a personal residence. The provision excludes gain of up to $250,000 for single taxpayers and $500,000 for married couples filing joint returns if the taxpayer meets a use test (has used the house as the principal residence for at least two of the last five years) and an ownership test (has owned the house for at least two of the last five years). A taxpayer who does not meet the qualifications may be eligible for a partial exclusion if the home was sold because of a change in employment or health or due to unforeseen circumstances.¹⁴ Additionally, other taxpayers may qualify for special treatment (e.g., members of the armed forces).¹⁵ The exclusion can generally be used every two years.

The Mortgage Forgiveness Debt Relief Act of 2007 (H.R. 3648) was passed by the House on October 4, 2007, by a vote of 386 to 27. The act would, among other things, exclude discharged qualified residential debt from gross income. Qualified indebtedness would be debt, limited to $2 million ($1 million if married filing separately), incurred in acquiring, constructing, or substantially improving the taxpayer's principal residence that is secured by such residence. It would also include refinancing of this debt, to the extent that the refinancing does not exceed the amount of refinanced indebtedness. The taxpayer would be required to reduce the basis in the principal residence by the amount of the excluded income. The provision would not apply if the discharge was on account of services performed for the lender or any other factor not directly related to a decline in the residence's value or to the taxpayer's financial condition. The provision would apply to debt discharges that are made on or after January 1, 2007. The provision has been estimated to cost $1.34 billion in reduced tax revenue from FY2008 through FY2017.¹⁶

After passage in the House, the Mortgage Forgiveness Debt Relief Act was introduced in the Senate and modified to provide a temporary, rather than permanent, exclusion. The modified version was passed in the Senate and then in the House in December 2007 and signed into law on December 20, 2007. The new law, which allows taxpayers who do not qualify for the existing exceptions to exclude COD income, is effective for debt discharged before January 1, 2010.

Other Legislation in the 110^th Congress

The Temporary Tax Relief Act of 2007 (H.R. 3996), which was introduced on October 30, 2007, and passed out of committee on November 2, 2007, includes the debt relief provisions of H.R. 3648. On November 9, 2007, H.R. 3996 was passed by the House by a vote of 216 to 193.

The Mortgage Cancellation Relief Act of 2007 (H.R. 1876/S. 1394) and the Foreclosure Tax Relief Act of 2007 (H.R. 3506) would also provide an exclusion for discharged qualified residential debt. While the three acts are similar, there are some significant differences. Examples of these differences include the following:

• Unlike H.R. 3648 and H.R. 3506, H.R. 1876/S. 1394 does not specify that the residence must be the taxpayer's principal residence or explicitly require basis reduction in the residence.

• H.R. 3648 limits the exclusion to $2 million ($1 million if married filing separately), H.R. 3506 limits the exclusion to $50,000, and H.R. 1876/S. 1394 has no limit.

• H.R. 3506 limits eligibility for the exclusion to taxpayers with modified adjusted gross income of $100,000 or less ($200,000 if married filing jointly); H.R. 3648 and H.R. 1876/S. 1394 have no limit.

• H.R. 3648 disallows the exclusion if the discharge was on account of services performed for the lender or a factor not directly related to a decline in the residence's value or taxpayer's financial condition; H.R. 3506 and H.R. 1876/S. 1394 do not have a similar provision.

• H.R. 3648 applies to discharges occurring after December 31, 2006, H.R. 3506 applies to discharges occurring in taxable years beginning after December 31, 2006, and H.R. 1876/S. 1394 applies to discharges occurring after the date of the bill's enactment.

Selected Legislation in the 109^th Congress

Debt cancellation relief was enacted by the Katrina Emergency Tax Relief Act of 2005 (KETRA; P.L. 109-73), which became law in September 2005. That legislation contained temporary tax relief provisions intended to directly and indirectly assist individuals in recovering from the devastation of Hurricane Katrina.¹⁸ Included in KETRA was a temporary exclusion for non-business debt that was forgiven by a governmental agency or certain financial institutions. If the discharge occurred between August 24, 2005, and January 1, 2007, eligible individuals (e.g., those with their principal place of abode on August 25, 2005, in the core disaster area) were able to exclude the COD income.

Selected Proposals Made Prior to the 109^th Congress

A provision enacted in the Tax Reform Act of 1986 (P.L. 99-514, § 405) allows farmers who are solvent to treat certain COD income as if the farmer were insolvent. Essentially, discharged, qualified farm debt is excluded from taxation if canceled by a qualified person. This debt relief is not exclusively mortgage related but has to have been incurred directly from the operation of a farming business.

In the past, Congress has provided tax relief when mortgage debt is forgiven. In August 1993, the Omnibus Budget Reconciliation Act (P.L. 103-66, § 13150) enacted a provision for permanent tax relief to owners of commercial real estate when some portion of the debt on commercial and investment property was forgiven. At that time, the conference committee stated the following:

This portion of the report provides analysis of the issues associated with the tax treatment of canceled mortgage debt income.

Homeownership Retention or Loss

In some instances, lenders may restructure or rearrange debt, cancel some debt, and allow the homeowner to retain ownership of the home. Then, all other things being equal, the borrower's net worth has increased as liabilities have declined and assets have remained unchanged. Alternatively, homeowners may experience debt cancellation while losing their home, through foreclosure or as a result of voluntarily deeding the property back to the lender. The homeowner no longer has the asset and, to the extent the asset value exceeded liabilities, may be worse off as a result of declining net worth. Additionally, he or she may realize gains or losses, which may make the taxpayer better or worse off as well.

If the taxpayer is not able to exclude the COD income, then the tax consequences of the COD income, assuming equal amounts of canceled debt, are the same regardless of whether the home is retained or lost. An illustration is shown in Table 1. Assuming residential debt of $200,000, a loan restructuring could occur, after which the homeowner owes $180,000 and the lender has agreed to cancel the remaining amount. The discharged debt, $20,000, is income subject to tax if no exclusion applies (e.g., the taxpayer is not insolvent) -- if a rate of 28% is assumed, the tax liability is $5,600. Alternatively, the home could have been sold as a result of foreclosure with a sales price of $180,000 along with a lender agreement to cancel the remaining debt. The $20,000 discharge is income and, assuming no exclusion applies and the same tax rate, generates the same tax liability. This is in addition to any taxes the taxpayer may owe on the gain from the sale of the house.

 Table 1. Tax Treatment of Canceled Debt Income Assuming No

Equity Among Homeowners

An exclusion of income can result in individuals with identical incomes paying different amounts of tax. A standard of fairness frequently invoked by public finance analysts in evaluating tax policy is "horizontal equity" -- a standard that is met when persons with identical incomes pay the same amount of tax. Like other exclusions, an exclusion for debt forgiveness would violate the standard of horizontal equity. Specifically, a person who has no forgiven debt might pay more taxes than a person who has the same amount of income, a part of which constitutes canceled debt.

An exclusion of forgiven debt may also reduce the tax system's progressivity -- the proposed provision, in other words, would likely favor upper-income individuals. This would occur because an exclusion of a given amount is more valuable to persons with higher marginal tax rates. This effect would be magnified if homeownership is more concentrated among upper income individuals.

An example of the effect an income tax exclusion has on the tax system's progressivity can be seen by identifying two individual homeowners, both of whom incur $20,000 in COD income. The tax benefit to the two differs if they are in different tax brackets.²² The value of the exclusion for a homeowner with lower income, who may be in the 15% income tax bracket, is $3,000, while the value to another homeowner, with higher income in the 28% bracket, is $5,600. Thus, the higher income taxpayer, with presumably greater ability to pay taxes, receives a greater tax benefit than the lower income taxpayer.

Past Enactments

Over the past quarter century, Congress has enacted tax relief for canceled debt in several instances, including assisting Hurricane Katrina victims in 2005 and commercial property owners and farmers during economic downturns in 1986 and 1993. The 2005 legislation was temporary while the others were permanent.

It could be argued that the market conditions that led to the 1986 and 1993 congressional enactments also exist today. Specifically, property values may be declining such that the property no longer supports the debt with which it is encumbered. Currently, the policy issue is posed by residential housing; in 1986, the problem was the business property of farmers; and in 1993, the issue was business real property. In providing the 1993 exclusion, Congress acknowledged it was essentially allowing the taxpayer to defer the income subject to tax because an adjustment to basis was required.²³

The 1986 exclusion of COD income for farmers may provide the most relevant reference for analysis of the current issues. At the enactment of the exclusion,

Data

Lenders report canceled debt income on IRS Form 1099-C. The data reported include all types of debt, not just residential. As shown in Table 2, the number of Forms 1099-C filed rose by 112% from 2003 through 2007. The amount of canceled debt also increased from 2003 to 2004, although data for subsequent years are not available. While specific conclusions about mortgage debt cancellation cannot be drawn from these data, to the extent that debt cancellation represents financial distress, the data suggest that the number of financially distressed taxpayers might be increasing. Alternatively, the rise in debt cancellations may be associated with increases in the number of debt transactions. In this case, the number of debt cancellations as a portion of debt may be proportionally the same.

 Table 2. Reported Canceled Debt

In lieu of legislative changes, improving awareness about the existing exclusions that apply when there is canceled debt, such as for insolvency or bankruptcy, may be an option to pursue. Also, it may be important to ensure that taxpayers know what to do if lenders misreport information on the Form 1099-C, which could make it appear that the taxpayer has canceled debt income that has not actually occurred.

Congress may choose to enact an exclusion for canceled mortgage debt income. As discussed above, existing law provides an exclusion of COD income for, among others, taxpayers who are insolvent or in bankruptcy. A proposal to exclude residential COD income would apply to taxpayers who do not currently qualify for exclusion because, for example, they are solvent.

An exclusion for canceled mortgage debt income would have different impacts on taxpayers, depending on a variety of circumstances. If an exclusion is pursued, several choices about the level of detail in the policy may be explored. The choices about the provision may depend on its purpose. One stated purpose is to minimize hardship for households in distress. Another stated purpose is to eliminate the adverse consequence of a tax for those homeowners able to renegotiate loans with their lenders, thus, to some extent, encouraging loan forgiveness, rather than foreclosure.

The potential minimization of hardship for financially distressed households has another, broader relevance. In the wake of foreclosures and housing market disruptions, financial distress to households could reduce consumer spending. A decline in consumer spending could cause or contribute to a recession. While an exclusion of residential COD income cannot prevent a recession, it might minimize financial distress for borrowers and contribute to minimizing adverse consequences vis-a-vis consumer spending.

What Kind of Exclusion?

One consideration for Congress is whether an exclusion provision should be temporary or permanent. As noted earlier, H.R. 3648, as originally introduced, proposed permanence, whereas the Administration had suggested the provision should be temporary.²⁶ The version of H.R. 3648 that became law includes a temporary provision, effective for debt discharged after January 1, 2007, and before January 1, 2010.

The current treatment of canceled debt income has existed in tax law for decades. Some argue that current housing market conditions, where there are a large number of "upside down" (the debt owed on the property exceeds the value of the property) homeowners, warrant a temporary solution for a crisis that is not expected to last. If the primary purpose of the policy is to minimize adverse consequences associated with loan renegotiations in the short-term (and minimize any potential economic downturn associated with housing market problems), then a temporary measure seems consistent with these purposes.

It could be argued that a provision providing for the exclusion of residential COD income should be temporary because owner-occupied housing is heavily subsidized even without a COD income exclusion. There are three principal tax provisions for owner-occupied housing currently in the tax code. The deduction for mortgage interest is the most costly provision, with an estimate of $79.9 billion in revenue loss for FY2008.²⁷ The exclusion of gain on the sales of homes is the second largest tax provision for homeowners, with an estimate of $29 billion in tax revenue loss for FY2008.²⁸ The deduction of state and local real estate taxes is the third provision, with an estimate of $14.3 billion in tax revenue loss for FY2008.²⁹ Some economists feel that this preferential tax treatment encourages households to over-invest in housing and less in business investments that might contribute more to increasing the nation's productivity and output.³⁰

On the other hand, some analysts might argue that the provision should be permanent. A case could be made that a temporary provision is unfair because there is no difference between an individual experiencing canceled debt income in 2007, when foreclosure rates may be high, relative to three or four years from now, when foreclosure rates may be lower. If the policy purpose is to minimize hardship when taxpayers experience distress, then making the provision permanent would seem consistent with that purpose.

What Types of Canceled Debt?

Several options are possible in determining what type of canceled mortgage debt income may be excluded from taxation. All canceled residential debt could be excluded from income, or alternatively, only certain kinds of debt could be allowed. H.R. 3648 proposes to limit the provision to debt associated with the primary (or principal) residence of a taxpayer, rather than, for instance, a vacation home or investment property.³¹

Some policy analysts have suggested disallowing second liens as qualified residential debt. The legislation proposed does not include a restriction against second liens. H.R. 3648, however, restricts qualified debt to include debt incurred in acquiring, constructing, or substantially improving the taxpayer's principal residence.

For some individuals, second liens may be home equity lines of credit, for others, second liens may be debt incurred as part of the purchase of the home. To the extent that home equity lines of credit are used to enhance the home and make capital improvements, it may be consistent with stated policy goals to include this debt as eligible for the exclusion. Yet, home equity lines of credit can also be used to finance consumption, such as vacations or paying off other debt. It may not be consistent with policy goals, some might argue, to include this type of debt in the exclusion.

Congress may also wish to consider limiting the amount of canceled debt that is excluded from income. As in the case of capital gains exclusion on sales of primary residences, a ceiling amount may be designated, such that any COD income below that level is excluded and COD income above that level is taxed. H.R. 3648 limits excluded COD income to $2 million ($1 million if married filing separate returns).³²

This option could reduce the amount of income excluded from taxation and thus limit the revenue loss associated with enacting an exclusion. The restriction might also reduce the benefit to upper income taxpayers. Limiting the amount of canceled debt income excluded would increase, albeit perhaps only slightly, complexity for tax filers and for tax administration, but would be unlikely to alter the reporting requirements of lenders.

Which Homeowners Should Be Eligible?

Policy makers would need to decide whether to exclude canceled debt income for all households or only some.

Ownership Tenure. As with the exclusion for gain on owner-occupied housing, the exclusion for canceled debt income could be limited to homeowners who meet certain ownership tests. As mentioned previously, taxpayers must meet both an ownership and a tenure test to be eligible to claim the exclusion for gain under IRC § 121. Taxpayers are eligible if they have met the use test (have lived in the house for at least two years out of the last five years) and the ownership test (have owned the house, also for two years out of the last five). Limiting the exclusion of capital gains in this manner was designed to minimize the possibility that investors, rather than owner-occupants, would be able to exclude capital gains from taxation. Alternatively, it could be argued that in the case of mortgage debt cancellation, tenure is not relevant to the stated policy goals for the legislation.

If this kind of restriction were applied to an exclusion of COD income, the number of tax filers eligible to claim the exclusion might be reduced. This reduction in filers may result in lower revenue loss. This policy option would add complexity to the reporting and filing processes and thus the tax code.

Household Income. Some policy makers have suggested that foreclosure assistance be provided only to households with low and moderate incomes.³³ As with other housing tax incentives, such as the mortgage revenue bond program and the first-time homebuyer tax credit for District of Columbia residents, income levels could be capped and the exclusion made unavailable to those households with income above the ceiling set by the legislation. It would seem that income would be highly correlated with foreclosure, in that those with lower income are experiencing hardship. Regardless of whether this is borne out by the data, it could be argued that household income is not relevant to the stated policy goals for the legislation.

This option could reduce the revenue loss associated with the provision, but would add complexity to the administration and tax filing process, relative to an exclusion without such a restriction.

Should Basis Be Adjusted?

As discussed above, current law requires that taxpayers who exclude COD income must essentially give back some of benefit by reducing tax attributes, such as basis in property. Several policy issues arise from this rule. The first is which tax attributes, if any, should be adjusted to account for excluded canceled mortgage debt income. One option is that there be no attribute reduction requirement. Alternatively, homeowners could be required to reduce specified tax attributes that include, but are not limited to, basis in the residence (e.g., taxpayers would be able to reduce basis in property other than the home subject to the discharged mortgage). A third option would be to require basis reduction in the taxpayer's residence. All taxpayers would benefit from the first option by not having to account for the excluded COD income. Whether a taxpayer would prefer the second option over the third one would depend on his or her circumstances (e.g., whether the taxpayer has basis in other property that would have to be reduced in the event of insufficient basis in the residence). H.R. 3648 uses the third option -- it would require the homeowner to reduce basis in the principal residence to account for the excluded COD income.

Another issue is when tax attributes should be adjusted. If basis is adjusted, one option could be to make the proposal consistent with current law, under which basis adjustment occurs in the year following discharge of the debt. Alternatively, basis adjustment could occur earlier (e.g., at the time of discharge or exclusion). If basis adjustment occurred in the year after discharge, homeowners losing their home at the time of debt cancellation would have already disposed of the property. H.R. 3648 does not explicitly address timing.

The restriction in H.R. 3648 requiring basis adjustment by the amount of cancelled debt suggests a desire by policymakers for homeowners to have to account for the benefit of the cancelled debt. Basis adjustment results in the taxation of cancelled debt income to the extent that gain from the disposition of the home is taxable; however, the timing of the basis adjustment may result in different tax consequences for taxpayers who lose their home.

The exclusion of COD income may result in differential treatment of taxpayers depending on basis adjustment timing, eligibility for exclusion of gain from the disposition of the residence, and homeownership retention. Policymakers may wish to account for that differential treatment, although doing so may add complexity and administrative cost to the proposal relative to its current state.

The exclusion of COD income may make debt forgiveness more attractive for homeowners relative to the current tax law. Some might argue, therefore, that this proposal could encourage homeowners to be less responsible about fulfilling debt obligations. These opponents might argue that the current exclusion available for those homeowners filing bankruptcy or claiming insolvency is sufficient. Another argument that could be made opposing the provision is that homeownership is already heavily subsidized.³⁴

² Martin Vaughn, "Taxes -- Panel Poised To Approve Forgiven Mortgage Debt Bill," CongressDaily, September 26, 2007.

³See IRC § 61(a)(12); see also, U.S. v. Kirby Lumber Co., 284 U.S. 1 (1931)(holding, prior to the IRC explicitly addressing the treatment of COD income, that a taxpayer had realized income from the discharge of a debt).

⁴See IRC § 108(a)(1)(A) and (B).

⁵See IRC § 108(d)(2).

⁶See IRC § 108(a)(3).

⁷See IRC § 108(b). The taxpayer reduces basis in property in the order set out by Treasury Regulation § 1.1017-1. Basis reduction occurs in the taxable year following the debt discharge. See IRC § 1017(a).

⁸ Recourse debt is debt for which the borrower is personally liable if he or she defaults on the loan. Nonrecourse debt is secured by property, and the borrower is not personally liable for the debt; if he or she defaults on the loan, the lender's only remedy is to seize the property.

⁹ For more information, see U.S. Department of the Treasury, Internal Revenue Service, Questions and Answers on Home Foreclosure and Debt Cancellation, available at [http://www.irs.gov/newsroom/article/0,,id=174034,00.html].

¹⁰See IRC § 102.

¹¹See Zarin v. Comm'r, 916 F.2d 110, 115 (3rd Cir. 1990).

¹²See IRC §§ 61(a)(3) and 1001.

¹³ For more information, see U.S. Department of the Treasury, Internal Revenue Service, Questions and Answers on Home Foreclosure and Debt Cancellation, available at [http://www.irs.gov/newsroom/article/0,,id=174034,00.html].

¹⁴See IRC § 121(c).

¹⁵See IRC § 121(d)(9).

¹⁶ U.S. Congress, Joint Committee on Taxation, Estimated Revenue Effects of H.R. 3648, JCX-98-07, October 5, 2007.

¹⁷ U.S. President (Bush), "Fact Sheet: New Steps to Help Homeowners Avoid Foreclosure," website [http://www.whitehouse.gov/infocus/economy/] visited October 4, 2007.

¹⁸ For more information, see CRS Report RS22269, Katrina Emergency Tax Relief Act of 2005, by Erika Lunder.

¹⁹ U.S. Congress, House Committee on the Budget, Omnibus Budget Reconciliation Act of 1993, H.Rept. 103-111, May 25, 1993.

²⁰ This tax treatment applies to many different kinds of debt, such as auto loans and credit cards, in addition to mortgage debt. As mentioned previously, if taxpayers are insolvent or bankrupt, they are fully or partially exempt from taxation on the canceled debt.

²¹ The time value of money asserts that the present value of a certain amount of money is greater than the future value of that same amount. Thus, the cost of a tax payment of $5,600 today is more than the same amount paid in the future.

²² COD income may cause a taxpayer to move to a higher tax bracket.

²³ U.S. Congress, House Committee on the Budget, Omnibus Budget Reconciliation Act of 1993, H.Rept. 103-111, May 25, 1993.

²⁴ U.S. Senate Committee on the Budget, Tax Expenditures: Compendium of Background Material on Individual Provisions, S. Prt. 109-072, 109^th Cong., 2nd sess., p. 220.

²⁵ Unlike appropriations, tax provisions do not require reauthorization

²⁶ H.R. 3506 and H.R. 1876/S. 1394 also propose a permanent provision.

²⁷ U.S. Congress, Joint Committee on Taxation, Estimates of Federal Tax Expenditures for Fiscal Years 2007 to 2011, JCS-3-07 (Washington: GPO, 2007), p. 27.

²⁸ Ibid.

²⁹ Ibid.

³⁰ N. Edward Coulson, "Housing Policy and the Social Benefits of Homeownership," Business Review -- Federal Reserve Bank of Philadelphia, Second Quarter 2002, p. 8.

³¹ As mentioned previously, H.R. 1876/S. 1394 limits the exclusion to the residence of the taxpayer, but not the principal residence; H.R. 3506 limits the exclusion to the principal residence.

³² H.R. 3506, as mentioned previously, proposes a limit of $50,000 for excluded COD income.

³³ H.R. 3506 proposes a limit of $100,000 for the household income of eligible taxpayers ($200,000 for married taxpayers filing jointly).

³⁴ As mentioned earlier in this report, the current tax subsidies for homeownership are estimated to cost more than $120 billion.