Santa Barbara Association of REALTORS®: "TAXATION OF SHORT SALES Q 9. What are the tax implications of a short sale? A A short sale where the lender agrees to reduce some or all of the outstanding debt may give rise to forgiveness of debt income. The amount of the debt that the lender agrees to write off is treated as ordinary income. The taxpayer will generally receive a 1099 from the lender in the amount of the debt reduction. This rule applies whether or not the underlying debt is recourse or nonrecourse. Even though the lender may be taking this action to facilitate the sale by the owner who is under a notice of default and facing a foreclosure, the agreement between the owner and the lender is voluntary and treated as a debt reduction. In addition, if the owner has owned the property for some time and has refinanced to take out some of the equity, the owner could be subject to capital gains taxation when selling the property as well. For example, the borrower has a remaining loan on the property when the borrower refinances in order to buy other investment property (or to buy a car, or to take a vacation, etc.) and now owes $300,000 to the lender. Thus, the taxpayer’s adjusted basis may be lower than the outstanding balance on the loan (as in the example below). The tax calculation would look like step one"
While this is from the Santa Barbara association of Realtors is applies to San Diego real estate owners as well as others in California. This is just an article your attorney may have a different opinion.
However, non Californian's owning California property should check with an attorney to see if all the consumer protection allows apply to them.