Huffington Post:  The Most Outrageous Tax of the Year:

At the precise moment when the federal government finally delivers a modicum of justice and some economic relief to millions of homeowners victimized by the nation's largest banks, the government threatens to beat those victims over the head with a punitive old favorite revenue raiser — a tax on forgiven debt. …

[In] the National Mortgage Settlement … many homeowners whose mortgages were serviced by the Big Five — Citi, JPMorgan Chase, Wells Fargo, Bank of America and Ally Financial — may qualify for significant reductions in their mortgage principal and interest rates. …

[U]nless Congress acts with uncharacteristic speed and bipartisanship, anyone who might receive a principal reduction from the mortgage settlement could face a hefty tax bill.

That's not supposed to be the way this all goes down. In 2007, Congress enacted the Mortgage Forgiveness Debt Relief Act, which prevents homeowners from paying taxes when their mortgage debt is forgiven due to a decline in the owner's financial life or a drop in the home's value. … 

The law applies to homeowners who participate in the National Mortgage Settlement who receive up to $2 million in reduced principal and interest charges. It is scheduled to expire at the end of 2012 along with all the other tax cuts we have heard about for years.

Whoops.

So, instead of getting the relief they need to save their houses, victimized homeowners will be forced to pay a significant portion of that savings to Uncle Sam. Since the average homeowner will receive about $19,000 in settlement relief, and the average middle class family pays about 25 percent in taxes, approximately one quarter of the forgiven debt — some $4,750 — will have to be paid to the IRS and by those who can least afford to pay it. For some families, that could be enough to tip the scales, pushing them back to the brink of foreclosure and eviction.

(Hat Tip: Francine Lipman.)

Update: San Francisco Chronicle, Clock Ticking on Forgiven-Debt Tax Break