MBA Submits Industry Issue Request to IRS on 1098 Reporting Issue

The Mortgage Bankers Association submitted an Industry Issue Resolution request to the Internal Revenue Service this week, requesting guidance on whether, when and how to report accrued but unpaid interest capitalized into principal on a modified mortgage.   

Reporting requirements under section 6050H of the Internal Revenue Code in the year of and years following the significant modification of a mortgage where the principal amount of the modified mortgage exceeds the principal amount of the pre-modification mortgage (as if accrued-but-unpaid interest on the pre-modification mortgage becomes part of the principal of the modified mortgage).  

MBA noted between 2008 and mid-2014, nearly 8 million mortgages were modified and a significant number of additional mortgages are modified each year. The current mortgage interest reporting rules do not explain whether, when, or how to report amounts of accrued-but-unpaid interest on a pre-modification mortgage that effectively becomes part of the principal of the modified mortgage upon modification. As a result, institutions in the mortgage lending and servicing industry must determine whether, when, and how to report the Capitalized Amounts on Form 1098.  

“It seems likely that many Reporting Institutions have treated modified mortgages as new loans for information reporting purposes–consistent with the substantive tax treatment of such instruments–and have treated the ultimate repayment of Capitalized Amounts by borrowers as payments of principal, as dictated by the terms of the modified instrument,” MBA said. “It may also be true that some Reporting Institutions report repayments of Capitalized Amounts as interest in some fashion.”  

MBA asked the IRS to issue guidance that does the following:

–Provides for a prospective effective date that gives servicers adequate lead time to implement and systematize any new reporting requirements;

–Provides prospective application only to loans modified after the effective date;

–Provides clarity regarding the timing of reporting (if any) and amounts to be reported; and

–Allows sufficient flexibility to mortgage borrowers who were permitted by law to deduct unpaid interest capitalized into principal in prior years but failed to do so.  

“Guidance should take into account the fact that there may be borrowers who have not deducted these amounts, notwithstanding that they may have been permitted by law to do so and give those borrowers a way to claim those deductions going forward, perhaps by treating the attempt to claim deductions on an amended return as a change in method of accounting,” MBA said.