IRS Tax Deductions on Foreclosure Homes

Recently the IRS made a tax policy about-face when it announced in early 2013 that banks could write off tax expenses related to home foreclosure immediately in the year incurred. This results in more up front tax benefits for the foreclosing bank and has caused a stir in the community.

IRS Deduction Law Favors Banks

IRS tax law has had to cope with the rising rate of foreclosures, and the tax complications that arise when the property changes hands due to foreclosure. When a bank seizes a property, it becomes responsible for the property’s upkeep and maintenance, including any remodeling or refurbishing required to make the property attractive to other homebuyers. Banks had previously had leeway to write off foreclosure expenses either up front, in the same tax year, or by capitalizing the expenses as part of the real estate cost when it tries to resell the property.

In 2012, the IRS decreed that all expenses must be capitalized; but then in early 2013 they reversed the decision and said banks could write off expenses immediately. At issue is whether foreclosed-upon properties are considered “property acquired for resale.” Since banks typically foreclose to mitigate losses on unpaid loans, the properties are not considered “properties acquired for resale,” and thus should not be subject to the capitalization tax. Now banks are working to reverse their own prior year tax write-offs to reflect these changes. Recently the American Bankers Association requested the IRS to allow banks to automatically adjust their accounting methodology in order to avoid needing written approval.

Foreclosure expenses for homeowners are not subject to any such deductions.