2018 Tax Reform: What Does it Mean to Homeowners?
It’s everyone’s favorite topic!
Taxes…with a sprinkling of politics, just to keep you interested!
Okay, it may not be exciting, and at times it can be confusing, disheartening, and downright frustrating, but the subject remains important.
If you haven’t heard, there is an ongoing political negotiation over tax reform, with differing versions in the Senate and the House of Congress. These bills will require a conference committee to smooth out the differences and blend the two bills.
The 2018 tax reform includes many different aspects, including the repeal of individual mandates for health insurance, adjusting the various tax brackets, and potential tax deductions for corporations.
Another aspect of the plan is the direct and indirect effects on the real estate market. Because the 2018 tax reform holds a few important changes for homeowners, it could have an impact on the real estate market.
Exactly what that effect will be is anyone’s best guess, but here’s what we know right now…
2018 Tax Reform and the Potential Impact for Homeowners
Home-Mortgage Interest Deduction Could Shrink
The biggest issue in the 2018 tax reform is deductions for home-mortgage interest. Currently, homeowners can take a deduction on interest paid for up to $1 million in mortgage debt.
So if you have a mortgage debt totaling $1 million, you can take a tax deduction for the entire interest on that debt. If, however, you have mortgage debt totaling $1.5 million, you can only take a deduction on the first million; the interest on the remaining $500,000 can’t be deducted. As the law stands, you can use this deduction for both first and second homes. There is also a current deduction for up to $100,000 in home equity debt.
The Senate bill currently leaves that deduction at $1 million, so if this form passes, there would be essentially no change to this aspect of the tax code.
According to the House bill for 2018 tax reform, the cap would be reduced to interest on $500,000 of mortgage debt. If this plan were to pass, the $1 million dollar mortgage debt could take a tax deduction on half, while the other $500,000 would not be eligible for deduction. The $1.5 million mortgage would have interest on $1 million that is not eligible for deduction.
The House bill does not mention the interest on home-equity loans, but it would limit the mortgage-interest deduction to primary residences only; there would be zero possible mortgage deductions for second homes. This would mean that interest rates on vacation homes would no longer be deductible if this part of the legislation passes.
A portion of the tax code currently prohibits prepaying interest, but the IRS will give homeowners a one-month grace period. Basically you can prepay January’s mortgage bill in December and write it off for the year. If you choose to prepay, be sure the Form 1098 documents the payment because if the numbers don’t lineup, you may be contact by the IRS, which may not be horrific, but is rarely a fun experience!
A late change to the 2018 tax reform Senate bill included a potential adjustment to property tax deductions. Current tax law says you can write off the full amount of property taxes that you pay, although other parts of the code can reduce the effectiveness of this deduction. Alternative minimum tax, for example, can lower the deduction. Details that lower property tax deductions generally affect higher-income individuals.
Both the Senate and the House bill would allow property tax deductions up to $10,000 and eliminate write-offs for state and local taxes. This could mean that prepaying some of your 2018 property taxes before the new year could improve your total deduction, because the IRS allows you to write off property taxes for the year that they were paid. However, if you put money in an escrow account, it’s not considered paid until it gets to the taxing office.
Selling the Home
There is also an important change to selling the home that could be in store with the 2018 tax reform. Essentially, you may have to live in your home a bit longer or face a higher tax bill. As the law currently stands, individual homeowners can sell their home and exclude the first $250,000 from capital gains tax. Couples filing jointly can exclude the first $500,000. However, they will have to have lived in the property for two of the past five years before the sale.
The new plan keeps the capital-gains tax avoidance, but you will have to live in your home for five of the past eight years before the sale.
This means that if you are planning on selling your home next year, but have only lived there for one year, you may owe taxes on any financial gains from the sale.
In the current code, there is also an exemption for hardship, but it is unclear whether this hardship waver will continue.
Housing Industry is Fighting Certain Portions of 2018 Tax Reform
The final bill is likely going to be a blend of both the Senate and House versions. Exactly what features, what limits, and what deductions are allowed in the final version is anybody’s best guess, and even the most studied economic scholars don’t know what the final version will look like, or its effect on the overall real estate market.
We do know that the housing industry is currently fighting against the House version, which lowers interest rate deductions from the first $1 million of the mortgage to $500,000. According to some analysts, the final bill will likely have the higher limit ($1 million) and exclude second homes. But again, nothing is certain until the final legislation is actually passed.
Work with a Knowledgeable Mortgage Professional
No matter what happens with the tax code and the real estate industry, you need to work with a fully-informed mortgage expert who can help you navigate these complex topics.
Contact us today and let us guide you through your next home purchase. From assistance with VA loans to approval for jumbo loans, we are passionate about helping people from all walks of life achieve their homeownership goals!