The Tax Cuts and Jobs Act (H.R. 1, “TCJA”) has been signed into law. Among its most controversial provisions are those reducing the tax benefits of home ownership. For many decades, buying a home has been one of the most tax-advantaged investments an individual could make. However, the TCJA curtails many of these benefits. Indeed, a majority of homeowners will receive no tax benefits at all from home ownership. These changes take effect for 2018 and continue through 2025. They are scheduled to expire for 2026 and later. The National Association of Realtors predicts that as a result of these changes home prices will grow only 1% to 3% in 2018, primarily due to low inventory. However, in areas of the country where home prices and taxes are quite high, prices could decline.
Under prior law, homeowners who itemized their personal deductions on IRS Schedule A were allowed to deduct interest payments on up to $1 million in “acquisition debt”–money borrowed to buy, build, or “substantially improve” a main home and a second home. In 2015, over 32.7 million taxpayers—21% of all filers—claimed this deduction, for a total of $283 billion.
Starting in 2018, homeowners are allowed to deduct the interest on only up to $750,000 in acquisition debt for a first and second home, a 25% reduction. Thus, for example, a taxpayer who purchases a $1 million home in 2018 and takes out a $900,000 mortgage will only be allowed to deduct the mortgage interest on $750,000.
This provision takes affect for homes purchased December 15, 2017 and later. The reduction does not apply to homes purchased before December 15, 2017. Nor does it apply to refinancings of homes purchased before that date so long as the new loan does not exceed the amount of the mortgage being refinanced.
One perhaps unintended effect of this provision is that many homeowners who have mortgages over $750,000 may be reluctant to move and purchase a new home for more than $750,000 because it will result in the loss of part of their mortgage interest deduction.
A home equity loan is a loan secured by your main or second home used for purposes other than to buy, build, or improve your home. For example, you might get a home equity loan to help pay off your credit cards or buy a car. Under prior law, interest on home equity loans of up to $100,000 was deductible as an itemized personal deduction. The TCJA eliminates this deduction for all taxpayers starting in 2018. This applies to home equity loans taken out before 2018 as well as those in 2018 and later. However, interest is still deductible on home equity loans (or second mortgages) if the proceeds are used to substantially improve your home, subject the $750,000 cap.
Under prior law, homeowners who itemized could deduct all the property taxes they paid without limit. In 2015, 37.6 million taxpayers deducted over $186 billion in property taxes. Starting 2018, homeowners will be allowed to deduct a maximum of $10,000 in property taxes and state income tax or sales tax each year. This $10,000 limit applies to both single and married taxpayers and is not indexed for inflation. This is a big hit for homeowners in high property tax states like California and New York.
One of the main features of the TCJA is that the standard deduction taken by all taxpayers is roughly doubled to $12,000 for single individuals and $24,000 for marrieds filing jointly. This has a big impact on the ability of moderate and lower income taxpayers to deduct their mortgage interest and property tax. Taxpayers must itemize their personal deductions to deduct mortgage interest and property tax. If you don’t itemize, you get no deduction. A taxpayer should itemize only if all his or her personal deductions, including mortgage interest and property tax, exceed the standard deduction.
Under prior law, when the standard deduction was set at $6,350 for singles and $12,700 for marrieds filing jointly, only about 30% of all taxpayers itemized. Of that number, about 74% took the mortgage interest deduction. The Urban-Brookings Tax Policy Center estimates that less than 5% of taxpayers will itemize during 2018 and later with the standard deduction doubled. This will reduce the number of taxpayers who deduct mortgage interest and property tax from 21% of all households to only 4%.
A preliminary version of the TCJA included a provision changing the rules about excluding the profits earned from the sale of a taxpayer’s main home. Under current law, singles need not pay tax on up to $250,000 in profit they earn from the sale of their main home, provided they lived in it any two of five years before the sale. The exclusion is $500,000 for married taxpayers. The House Republicans had proposed changing this rule to require homeowners to live in the home for at least five of the eight years prior to the sale to qualify for the exclusion. However, this provision was dropped from the final bill. Thus, the $250,000/$500,000 home sale exclusion remains unchanged.
As a result of the TCJA, the vast majority of taxpayers will no longer itemize their personal deductions. As a result, there will be no tax benefits from home ownership. Most homeowners will be in the same boat as renters. Even for those homeowners who do itemize, the tax benefits of owning a home will be much less. For example, the National Association of Realtors has calculated that, under prior law, a single taxpayer with an income of $58,000 who purchased a $205,000 condo with 3.5% down would have saved $175 per month in federal income tax. Under the TCJA, the savings are only $53 per month.