A lender is required to send a statement called Form 1099-A if you are going through foreclosure or a short sale of your property. Form 1099-A is for informational purposes only and does not get filed with your federal returns. Your lender sends Form 1099-A to the Internal Revenue Service (IRS) and mails you a copy. If your house is sold for less than the loan amount, it may create a taxable gain that must be reported to the IRS.
Check all line items on Form 1099-A such as Line 1 "Date of Lender's Acquisition or Knowledge of Abandonment" to ensure accurate reporting to the IRS by your lender.
Look at Line 2 "Balance of Principal Outstanding" on Form 1099-A. The IRS is interested in knowing the principal balance of the debt either at the time of loan or at the time when the property is believe to be abandoned, exclusive of any foreclosure costs, penalty fees and accrued interest.
Compare Line 4, "Fair Market Value of Property (FMV)" on the Form 1099-A with Line 2. If the FMV is greater than the outstanding balance, then there is no taxable income.