Home foreclosures are still a major problem around the country with foreclosure starts jumping nearly 20% from July through August according to a report by Lender Processing Services. If losing a home is not one of the worst things that can happen, to add insult to injury, a taxpayer may owe Federal and/or State taxes as a result of the foreclosure. For the sake of this article the focus will be on Federal taxes, and there are two possible tax consequences that need to be considered: 

1) A reportable capital gain on the sale of property - Under Federal tax law, the IRS likens a foreclosure or the disposition of a home as a sale 

2) Cancellation of debt income or income for debt being forgiven - Generally, when a taxpayer receives a loan, they do not have to pay taxes on it because it must be paid back. However, when debt is forgiven or cancelled, that amount needs to be reported as income.

Let's look at both of these Federal tax implications in the event of a foreclosure.