THE BLOG

Court Decision Spells Trouble for Short Sales

07/02/2013 06:07 pm ET | Updated Sep 01, 2013

In an Alice Through the Looking Glass decision, where everything appears backwards, the Fourth Circuit Court of Appeals ruled a 1099-C meant nothing, and did not forgive a debt despite being labeled "Cancellation of Debt," FDIC v. Cashion, No. 12-1588 (4th Cir. June 19, 2013). The court held the borrower liable for a $2 million mortgage deficiency, pointing out an IRS regulation can require a 1099-C "whether or not an actual discharge of indebtedness has occurred." In the court's opinion, the 1099-C not only failed to cancel the mortgage deficiency, but didn't even raise an issue of fact for a jury, finding for the FDIC as a matter of law. The Court noted a majority of Courts across the United States agree with this position. One exception is where the borrower and mortgage holder have a separate agreement that the debt will be forgiven. There was none in the Cashion case. The 1099-C in and of itself was not enough.

This decision could raise havoc for "short sales." Realtytrac, a website tracking foreclosures and short sales, estimates 22 percent of home sales in 2012 occurred as a result of a "short sale." It's not unusual in my bankruptcy practice to hear a "short sale" proceeded without any assurance, written or otherwise, that the mortgage deficiency would be forgiven. The Internet is replete with examples leading borrowers to conclude the issuance of a 1099-C conclusively establishes the forgiveness of debt:

Borrower: I have a Form 1099-C from my second mortgage, is that considered a cancelled debt?
Block: Yes. Form 1099-C reports the cancellation of debt.

Some states have anti-deficiency statutes. In New Hampshire, a foreclosure deficiency is collectable for twenty years This can be a rude rude surprise for homeowners. Perhaps, the $2 million mortgage deficiency in the Cashion case will prompt an appeal to the U.S. Supreme Court for a reversal. Meanwhile, the safest bet is to get it in writing.

The above is not intended as legal advice for your particular situation. Laws vary from state to state and within certain government programs. Questions should be addressed to attorneys admitted to practice within your state. Richard Gaudreau is a lawyer admitted to practice in New Hampshire (NH) and Massachusetts (Ma) with a specialty in bankruptcy and providing student loan assistance. He may be reached through his website at attorneygaudreau.com, by email at Richard@attorneygaudreau.com, or by calling 603-893-4300.