Federal lawmakers are poised to alter the face of the real estate market in 2018 with several proposed changes to the tax code. Specifically, the House and the Senate have different bills to consider how real estate and mortgages are taxed (or not taxed), including:
- doubling the size of the standard deduction, meaning it would benefit fewer families — those with larger deductions — to itemize and claim deductions like the mortgage interest deduction (MID);
- increasing the length of time needed to avoid paying capital gain taxes on the sale of a principal residence, from its current two years to five years;
- reducing the cap of the MID from $1 million to $500,000; and
- eliminating or at least reducing the amount of property tax eligible to be deducted.
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)]
Moody’s Analytics estimates if the proposed changes go into effect, real estate values would decrease by 2019 by as much as 14% in some of the nation’s high-cost areas. In California, the estimate is closer to a 10% decrease in home values, varying by metro area, according to the New York Times.
The tax changes, as they are proposed, would significantly decrease the percentage of homeowners taking the MID here in California, from:
- 99% in San Francisco under the current tax rules to 59% under the proposed rules;
- 96% in Los Angeles to 30%;
- 94% in San Diego to 20%;
- 73% in Sacramento to 5%; and
- 56% in Riverside to 3%, according to Zillow.
As real estate professionals gather across the country to fight the proposed changes, we await the final version of the bill. Stay tuned — first tuesday will continue to report as the final changes to the tax code become known, perhaps as soon as later this week.