The California Association of Realtors (C.A.R.)  just received confirmation from the California Franchise Tax Board  (obtained by the State Board of Equalization) that California homeowners short selling their homes are NOT subject to state income tax liability on the difference between what the home sold for and what was owed.  Typically that difference was considered “income” and taxable, both through Federal (IRS) and also California Franchise Tax Board.

According to C.A.R., confirmation was also received last month from the IRS, “that the debt written off in a Short Sale does not constitute recourse debt under California law, and thus does not create so-called “cancellation of debt income to the underwater home seller for federal income tax purposes.”

So, how is this great news?  Well, when considering a Foreclosure vs. a Short Sale, fearful California homeowners were worried that if they Short Saled their house, they would face tax liability from both the Federal & State entities for the “phantom income” on the sale of their home.  On the other hand, if they Foreclosed on their property, the negative implications on their credit would be much more harsh and would follow them longer than if they Short Saled.  Both options are grim, but when facing the possibility of tax implications, many people would probably have had no choice but to choose Foreclosure.  Now, they can get the “monkey off their back” and plan a new start!