Question: Why do first tuesday writings — posted here on the journal and in affiliated books — seem politically biased?
Answer: The writers at first tuesday strive to keep political opinions out of our fact-based writings, but let us address some of the issues that are political hot buttons.
In a recent letter to the editor, a concerned reader asked about our stances on a few politically charged issues. first tuesday does not shy away from addressing issues that have political meaning when they hold significance for California’s housing market. Such issues include:
- the mortgage interest deduction (MID);
- Proposition 13;
- capital gains; and
- §1031 exchanges.
Here, we outline (briefly) our stance on each of these issues and discuss why our stance aims for the best long-term outcome for a stable and healthy housing market.
first tuesday’s stance on the MID: revise to reduce the limit and to shift the bulk of tax deductions from wealthy homeowners to less wealthy homeowners.
The MID is a tax deduction on interest accrued and paid on mortgages. Mortgage interest is deductible from income as an itemized expense when the mortgage:
- funded the purchase price or paid for the cost of improvements to the owner’s principal residence or second home; and
- is secured by either the owner’s principal residence or second home. [Internal Revenue Code §163(h)]
The MID is a wildly popular tax incentive. However, it primarily benefits the top 20% of income earners. In fact, the MID gives the highest earners four times more housing subsidy than is collected by the poorest 20% of mortgaged homeowners. In other words, the wealthier the homeowner, the bigger the tax savings, and less tax savings are available to poorer homeowners.
first tuesday advocates the MID ceiling be reduced from its current limit of $1 million for joint filers to a smaller amount, closer to the average priced home for the homeowner’s zip code. We also support the elimination of the MID on second homes.
Revising the MID to be less inclusive will free up taxpayer money to go towards other public necessities. From 2010-2015, the MID cost the U.S. about $380 billion in lost tax revenue, according to the Pew Research Center. That lost tax revenue results in less spending on necessary public services.
first tuesday’s stance on Prop 13: Amend to address major loopholes.
Proposition (Prop) 13 caps the amount of property taxes paid by California homeowners each year.
Prop 13 limits property taxes to 1% of the property’s assessed value. The property’s assessed value equals the property’s base value (the property’s value at the time of purchase), plus an inflation factor determined by California’s consumer price index (CPI). If the same owner has held the property since Prop 13 was adopted, then their home is taxed based on its assessed value in 1975.
The property’s assessed value may increase a maximum 2% each year, to compensate for annual inflation. However, it may change upon a reassessment by the county assessor. A reassessment only occurs upon transfer of title, even if the property’s actual fair market value (FMV) is substantially higher than its assessed value.
The main benefit of Prop 13 — and the reasoning behind adopting it initially — is it helps older homeowners on fixed incomes keep their homes in retirement. Prior to Prop 13, it wasn’t uncommon for older homeowners to lose their homes due to higher and higher property taxes due to rising home values.
Proponents also claim Prop 13 encourages new homebuyers to invest in homeownership. Neighborhood stability is another bonus, as homeowners are incentivized to stay put to receive lower tax rates.
However, first tuesday has long espoused that the drawbacks to Prop 13 outweigh the positives.
The negatives to Prop 13 include:
- this “welcome stranger” law, as it’s sometimes called, translates to new homeowners shouldering an unequal share of the tax burden to support local governments;
- local governments being forced to raise taxes in other areas in order to collect the needed income to operate local schools, infrastructure and services (these areas include higher income taxes, sales taxes and business taxes);
- major corporate and investment loopholes that see businesses profiting; and
- reduced turnover, as current homeowners are hesitant to move when selling means losing their old property tax rate.
The good news: California can keep the benefits of Prop 13 while removing the negatives. first tuesday does not advocate for removing Prop 13 altogether — not only is that unrealistic, but it doesn’t need to be done. Prop 13 can be amended to remove loopholes and still protect the vulnerable groups it was intended to cover.
first tuesday’s stance on immigration: immigrants are a positive force on California’s housing market.
Each year, more California residents leave for other states than enter, amounting to a net negative domestic immigration rate. But this loss is more than made up for with the ever-growing population of international migrants.
International immigrants are a vital component of several industries that fuel California’s economic success. More than one-in-four current California residents were born abroad, twice that of the U.S. average.
Further, immigration reform in California has the potential to increase homeownership and generate up to $500 billion in new mortgage originations, according to the National Association of Hispanic Real Estate Professionals (NAHREP).
first tuesday’s stance on capital gains: Revise these rules to increase the ceiling on capital gain tax rates.
When it comes to real estate, capital gains are chief among the issues between the rentier and debtor class.
There are two main economic classes among Americans:
- rentiers, who use accumulated money to make money by placing their wealth in assets which produce passive income; and
- debtors, who use their labor or skills working for paychecks, including self-employed business operators, to fund their living expenses until retirement.
The rentiers (also sometimes called the 1%) are not inherently evil, nor are the other 99% automatically earnest laborers — despite the reductionist social sentiments that too often dominate the discussion.
The fact is, rentiers hold the assets debtors need to function and maintain their quality of life. For example, a rentier may live off rental payments generated from multiple income properties they own — paid by the debtors occupying the properties.
The most significant portion of capital income growth today realized by rentiers stems from the high demand for housing and lack of housing supply (inventory). Of course, these profits and the annual yield produced by income-producing properties are taxed.
For the 1%, the capital gains tax is capped at 20%, compared to the highest income tax rate of near 40%, allowing for significant retention of the excess income presently flowing from tenant demand.
This creates an adverse dynamic between the debtor and rentier class, as much of the rentier class pays a lower tax rate than the debtor class. This is despite the fact that debtors earn much less on average than rentiers.
A revision of the capital gains tax rate is necessary to balance this dynamic.
first tuesday’s stance on §1031 exchanges: reduce §1031 regulations and allow more small investors access to the covered benefits.
A §1031 exchange allows an owner to sell business-use or investment real estate and use the proceeds to purchase like-kind property without a tax on the profit. The exchange shifts the untaxed profit (or loss) on the sale forward to the replacement property purchased. Only on a later resale of the replacement property will the owner report and pay taxes on profit or loss, and then only based on the price received on the final resale. [See RPI Form 301-1]
Further, the profits from the resale of replacement property may again be reinvested to purchase other §1031 real estate and further defer profit reporting and taxes. [26 United States Code §1031]
In order to take advantage of the tax deferment hidden in a §1031 exchange, investors need to follow extensive rules and regulations. These regulations can be reformed — or eliminated — to allow more investors the opportunity to complete §1031 exchanges.
As the law currently stands, only those well-versed in the code or well-resourced to hire attorneys and tax experts are able to take advantage of §1031 benefits. This is one reason why §1031 exchanges have declined significantly since rules were made more complex in the 1990s.
For example, current regulations impose convoluted timelines and identification requirements when the sale of a property and the purchase of the replacement property don’t close simultaneously, called delayed §1031 transactions. These complications make it less likely a new or unsophisticated investor can take advantage of the §1031 investment arrangement without paying expensive attorneys or unnecessary facilitators to assist. [26 USC §1031(a)(3)]
In fact, there are so many rules, exceptions, qualifications and loopholes to §1031 exchanges that Realty Publications, Inc. publishes an entire textbook on the topic! [first tuesday students, see Realtipedia Volume: The §1031 Reinvestment Plan]
Therefore, simplifying §1031exchanges by eliminating much of the code is needed to open up access to the tax benefits of §1031 to more investors.
Politically charged — since 1979
first tuesday holds these stances because of its long history in the California real estate industry.
Further, first tuesday does not hew its opinions on housing to fit any political ideas — but so many of the topics important to housing do happen to be politically charged. We will continue to report on these and other, less tense and data-driven topics as they relate to the housing market, and we always welcome your vocal dissent, agreement, observations and comments.