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How the New Tax Law Affects Homeowners

By Anthony SanFilippo
December 2018

It’s been a full year since the tax reform bill was passed by Congress and it is now starting to have impacts across the country, especially on homeowners.

While many homeowners, homebuyers and real estate investors will see benefits from this legislation, some markets may still see diminished tax benefits and adverse impacts to the real estate market.

While final data for 2018 is still not available, the National Association of REALTORS® (NAR) projected slower growth in home prices – between 1 and 3 percent – for the year. The continued growth is likely from the demand still being higher than the supply nationally, but in some local markets, specifically those in high cost, higher tax areas, price declines are expected because of restriction on mortgage interest and state and local taxes that were part of the new legislation.

“Most people aren’t even aware yet that this tax change took place, either because they haven’t adjusted their withholding or they haven’t filed a tax return yet.”

“Most people aren’t even aware yet that this tax change took place, either because they haven’t adjusted their withholding or they haven’t filed a tax return yet,” said Evan Liddiard, CPA, Director of Tax Policy for NAR. “If you wait until after April 15, 2019, it will change because it will give people time to look at what the effect will be.”

But they’re about to.

The new legislation reduces the limit on deductible mortgage debt to $750,000 for new loans taken out after Dec. 14, 2017. Current loans of up to $1 million are grandfathered and are not subject to the new $750,000 cap. Neither limit is indexed for inflation.

Homeowners may refinance mortgage debts existing on the aforementioned date up to $1 million and still deduct the interest, as long as the new loan does not exceed the amount of the mortgage being refinanced.

The legislation also repeals the deduction for interest paid on home equity debt through the end of 2025. Interest is still deductible on home equity loans or second mortgages if the proceeds are used to substantially improve the residence.

Interest remains deductible on second homes, but it is subject to the limits listed above.

Also, part of the reform legislation caps an itemized deduction at $10,000 for the total of state and local property taxes and income or sales taxes. This $10,000 limit, also known as a SALT cap, applies for both single and married filers and is not indexed for inflation.

A higher standard deduction of $12,000 for single individuals and $24,000 for joint returns was also part of the new tax law. Nearly doubling the previous standard deduction, the effect of the increase is that the value of the mortgage interest and property tax deductions as tax incentives for homeownership has been reduced.

Estimates indicate that between 12-13% of filers will now be eligible to claim these deductions by itemizing – down from 31% in 2017 – meaning there will be no tax differential between renting and owning for nearly 90% of taxpayers.

Impact on Homeowners, Home Buyers and Sellers

So, how would this affect you as a homeowner or a potential homebuyer?

“For most of the year we had high inventory and prices were going up and it’s true that some areas of the country have a lot more of this happening, but it’s also true that every state and every city will have some homes affected,” Liddiard said. “It may not be as high a factor everywhere, but go to New Jersey and almost every middle-income-and-up home is likely to have a problem. Whereas if you go to somewhere like Tennessee or Utah, it’s only going to be the most exclusive neighborhoods that may have property taxes and income taxes that exceed $10,000.

“When I was in Tennessee earlier this year, the folks I talked with didn’t think the $10,000 cap was going to be a problem at all. Their property taxes are low and there isn’t any income tax at all, so hardly anybody is going to be affected – likely only the wealthiest 10 percent. But in New Jersey or New York, all they want to talk about is this so-called SALT cap.”

Consider this example that NAR provided:

A single person we’ll call Barbara making $58,000 annually and who rents is looking to buy a home for the first time. Barbara pays state income tax of $2,900 and makes charitable contributions of $2,088, but the total of these is lower than the standard deduction, so the standard deduction is claimed.

But had Barbara purchased a home costing $205,000, using a 30-year fixed rate mortgage at 4% interest, and putting down 3.5%, she would pay first-year mortgage interest totaling $7,856 and property taxes of $2,050, adding to her itemized deductions.

As a homeowner, Barbara could itemize deductions under both the old and new law, because they total more than the standard deduction. But the old tax rules rewarded her for owning a home vs. renting one by lowering her tax bill by $2,100. The new rules still give her a tax subsidy for owning, but the amount is reduced to just $637, or $53 per month.

Another way of looking at it is that as a renter, Barbara would receive a tax cut from the new changes of almost $1,500. But had she bought the home, her taxes would actually go up by $30.

In other words, before the reform, Barbara would have had a strong tax incentive to become a homeowner. While that incentive still exits, it is only a small portion of what it used to be and it is not very compelling.

Still, Liddiard thinks a single person looking to buy a home is better off than a married couple because the cost of purchasing a home for a single person is much higher per capita than for a couple.

“Single people are going to find it easier to get tax subsidies to buy a home than married folks,” he said. “A couple can live in a house the same size as a single person. Yet, a married couple has a $24,000 standard deduction and would have to have that much in itemized deductions to begin to get the tax benefit, whereas a single person would only have a $12,000 threshold and they can exceed this number a lot easier with the property tax and with their mortgage interest than someone who is married can exceed $24,000.”

An Unexpected Consequence

Millennials are trying to find loopholes to this, and one of them is to skip out on tying the knot.

“People just aren’t marrying as much anymore,” Liddiard said. “They may still live together but they aren’t getting married. Now you have two single people, earning the same money as a married couple, but they’re each buying half a house. They each get a $750,000 limit and they each get a $10,000 cap and they each have only a $12,000 standard deduction threshold.

“So, they can buy the house, they can each pay for half the house, be co-owners of the house and still get big tax benefits, whereas if they were actually married they wouldn’t get nearly as much or none at all. The new law created a huge marriage penalty and discourages people from marrying. I don’t think that was intended, but that’s the effect of it.”

In the end, the real impact of this tax reform won’t be felt by homeowners for several years, but without additional reforms, it’s going to put a real financial squeeze on most homeowners in the not-too-distant future.

“It depends on how far ahead you are looking, but the longer ahead you look the more negative the impact,” Liddiard said. “Keep in mind the SALT cap and the $750,000 limit are not indexed for inflation, so every year they are going to pinch a little bit more. It doesn’t look like much if you just look at the next few years, but look ahead 15-20-25 years, if Congress doesn’t change it again – and it took 31 years to change it this time – most of the country is going to be severely impacted in a negative way.

“No longer can a married couple with two kids making $65,000 a year buy a house worth $130,000 and get help from the tax code. Under the old law, they could get about a $100 per month subsidy from the tax code. No longer is that going to be the case. The 12-13% who are going to get a tax benefit from owning a home are largely going to be folks in the top 10 percent of earners who have a large mortgage, who pay a lot in state and local taxes and max out at $10,000 and also make charitable contributions. Those will be the ones who have enough itemized deductions to see the tax law incentivizing home ownership.”

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