After a home in foreclosure is sold at a foreclosure auction, the foreclosing lender is required to file a 1099-A which reports the foreclosure auction to the IRS. The auction is deemed a sale for IRS purposes, and the homeowner/borrower is required to report the sale on his or her tax returns for the year in which the auction/sale occurred. If, however, there was a cancellation of debt, the lender would then be required to file a 1099-C (the 1099-C was discussed in detail in my July 24, 2014 blog post).
Because most foreclosures involve non-recourse loans (where the borrower is personally liable for the repayment of the loan) the sale price is deemed the fair market value (FMV) of the property at the time of the auction sale. The homeowner/borrower will then need to determine the adjusted basis in the property and subtract that sum from the FMV which will then determine if there is a loss or a gain. If there is a gain then it may result in a tax bill unless the homeowner/borrower can claim the $250,000 Lifetime Capital Gains Exclusion ($500,000 for married couples). If there is a loss, the homeowner cannot use such loss to offset any income if the property was a personal residence. There are many rules that apply here and it is best to consult with an experienced CPA. Additional information is available through the IRS's link: www.irs.gov/taxtopics/tc432