Did you know that until recently, mortgage debt on a primary residence that was forgiven from a Short Sale or foreclosure could be counted as taxable income by the IRS? 

On December 20, 2007, the Mortgage Forgiveness Debt Relief Act was signed into law. Effective from January 1, 2007 through December 31, 2009, any foregiven or "cancelled" primary mortgage debt from a principle residence, or debt used to improve the residence, will not be taxable.  The limits are up to $2,000,000 for married couples filing jointly, or $1,000,000 if filing separately.  You can find more information on the IRS online filing form titled Reduction of Tax Attributes Due to Discharge of Indebtedness. 

Be aware, however, that second mortgages or home equity lines are not exempted. Second homes and investment properties are still subject to taxation for forgiven debt.  There is an exception when the borrower is insolvent, meaning, has liabilities are greater than assets.  For a detailed explanation and a worksheet to figure if you have any liability, please visit the IRS page about " Questions and Answers on Home Foreclosure and Debt Cancellation" .  And of course, consult with your tax account on your particular situation.