Final answer:
The couple may owe income tax on the $20,000 difference between the foreclosure loan balance of $120,000 and the property's adjusted book value of $100,000, which is considered cancellation of debt income by the IRS.
Step-by-step explanation:
If a couple has lost their investment property through foreclosure and the loan balance at the time of foreclosure was $120,000, but the property's adjusted book value was $100,000, they may owe income tax on the difference between the loan balance and the property value, which is referred to as cancellation of debt income. This is because the Internal Revenue Service (IRS) may consider the forgiven debt as income.
If the foreclosed property was worth less than the balance of the mortgage, the difference is often considered taxable income. In this instance, they might owe taxes on $20,000, which represents the amount of the loan ($120,000) exceeding the property's adjusted book value ($100,000).