Obama’s FY2013 budget proposal includes an extension of the Mortgage Forgiveness Debt Relief Act of 2007.

The Act ensures that homeowners who received principal reductions or other forms of debt forgiveness on their primary residences do not have to pay taxes on the amount forgiven.

Without the Mortgage Forgiveness Debt Relief Act, debt reduced through mortgage modifications or short sales qualifies as income to the borrower and is taxable. Under the act, up to $2 million in debt elimination can be tax-free.

In the Treasury’s Green Book, its summary explanation of the administration’s budget proposal, it calls for an extension of the tax break due to “the continued importance of facilitating home mortgage modifications.”

The administration is proposing an extension that would apply to any amounts forgiven before January 1, 2015.

At that point, the government would reassess the market and determine whether another extension is appropriate.