The U.S. Senate and House of Representatives this week began the arduous process of working out the disparities between their tax bills — a daunting task that will require reconciling hundreds of billions of dollars in differences. The two versions of the legislation are a bit of a mixed bag for the real estate industry — disproportionately favoring the commercial sector over residential. Limited liability companies (LLCs) and real estate investment trusts win big under both. Homeowners? Not so much.
The bill sought to abolish state and local taxes such as property taxes. The House version caps mortgage deductions at $500,000, down from $1 million. The Senate’s bill doesn’t change the cap on these deductions but eliminates them for home equity loans, the Washington Post reported. The Senate version has also decided to follow the House in allowing deductions on property taxes of up to $10,000.
The bill also intends to slash the corporate tax rate from 35% to 20% taxable income, raising dire concerns about the Federal deficit and creating the specter of higher interest rates, which are slated to take effect starting in a few weeks.
This plan has attracted mixed reactions across the political divide with homeowners in major states such as California arguing that such legislation would eliminate the incentive for residents to buy homes thus being detrimental to the housing industry.
According to the bill, homeowners will only be able to deduct interest on the first $500,000 of the loan, leaving them to carry the burden of footing the rest of the principal and interest reimbursement without the advantage of a tax deduction. A move that would set a path to a temporary decline in the value of homes over a period of time before the state of equilibrium in the demand and supply of homes is achieved.
Even though the bill might not have adverse effects on the median price of houses sold today, this plan could affect real estate in the Bay Area, where the market prices are some of the most expensive in the US and have high local tax rates. Characterizing tax reform bills pending in the House and Senate as “an assault on housing,” the National Association of Realtors (NAR) broadly condemned numerous provisions in the legislation that would either increase taxes on homeowners or provide fewer cuts than renters.
According to the NAR, in 2016, 13% of owners in California have lived in their homes for 2-4 years. These owners will not be able to take the exemption based on the proposed tax frameworks. Furthermore, NAR states that if both mortgage interest and real estate tax deductions were eliminated, home prices could fall between 8-12%. A decline in value as projected could mean a loss in home value of $37,710-$56,550 for the typical homeowner.
Also, under the current tax framework, a typical owner who has lived in their home for at least two out of the last five years will pay nothing in capital gain taxes if he sells his house. Under the proposed tax framework, owners need to live in their homes for at least 5 out of the last 8 years in order to claim the exemption. Otherwise they need to pay $28,875 in capital gains taxes. Will this new rule force sellers to consider staying in their homes longer and thus affecting the already low amount of homes for sale in Silicon Valley?
On the flip side, the new tax plan would favor homebuyers due to the possible reduced home prices. This would positively impact the middle class, who for a long time, have been unable to purchase homes and perhaps a 8-12% dip in home prices would make a difference. Renters who receive a great tax return because of their bigger deduction could save the money for a down payment and become homeowners in the future.
Though the President has not signed the tax plan into law, the plan will have a mostly negative impact on the value of properties, especially those in high priced home regions such as Santa Clara County, with the only possible silver lining being a possible dip in prices to help the affordability issues for home buyers.
Stay tuned as we await what the Senate and Congress work out between themselves and what ends up on President Trump’s desk for signing into law.
If you would like to discuss how the tax reform may affect you as a buyer or seller, please contact me.