It is not unusual for a home to be worth less than what the owner owes on the mortgage. This is commonly referred to being “underwater”. As long as the owner pays the mortgage on time, eventually the mortgage will be paid down and the house may appreciate in value. However, when the owner becomes delinquent on the mortgage, severe consequences may arise with the IRS.
Say your home is foreclosed and you don’t care because you decide that an underwater house is not worth saving. If the house is sold at the sheriffs sale for less than what you owe on the mortgage, your lender can decide to release you from the deficit on the loan payoff. But then your lender will issue a 1099 to you, documenting its forgiveness of that debt to the IRS. The IRS considers that to be taxable income to you. You will have to report that amount on your tax return and pay tax on it.