Housing Assistance Tax Act of 2008 Targets Home Ownership

President Bush signed the Housing and Economic Recovery Act of 2008 on July 30, 2008, after the White House removed its previous veto threat. This legislation is a direct response to the continued decline in the housing market and its overall effect on the nation’s economy. The tax provisions in the bill enact significant changes even though they are only one part of the larger housing bill. The tax title, The Housing Assistance Tax Act of 2008 (“the Act”) includes $15.1 billion in tax incentives that are completely offset by revenue raisers. The real estate-specific tax incentives focus on home ownership and affordable housing, while the offsets to these incentives are obtained from a range of sources.

First-Time Homebuyers Credit
The Act entitles first-time homebuyers (i.e., those who have not owned a principal residence in the United States for three years preceding the current home purchase) to a temporary refundable credit equal to 10% of the purchase price of a home, up to $7,500 ($3,750 for a married individual filing separately). The new credit is effective for qualifying home purchases made on or after April 9, 2008, and before July 1, 2009. The credit will be subject to a phaseout for taxpayers with a modified adjusted gross income in excess of $75,000 ($150,000 for married persons filing jointly).

Although this benefit is called the “first-time homebuyer credit”, the use of the term “credit” is misleading. The credit basically functions as a no-interest loan. Homeowners who take advantage of this credit must repay the credit over a 15-year period even if they continue to own and live in the home. The repayment process, which begins two years after the principal residence purchase, will add $500 to the homeowner’s tax bill each year for 15 years. If the homeowner sells or no longer uses the home as his or her principal residence before repaying the credit, the unpaid balance becomes due in the year this event occurs. However, the credit does not have to be repaid if the homeowner dies. In addition, there are special rules for involuntary conversions of the residence, as well as a residence transferred pursuant to a divorce.

Additional Standard Deduction for State and Local Property Taxes
This provision of the Act targets homeowners who claim the basic standard deduction, instead of itemized deductions, on their individual tax returns. Taxpayers cannot take the standard deduction if they claim itemized deductions. Taxpayers who itemize their deductions may deduct state and local taxes paid, including individual income taxes, real property taxes and personal property taxes.

The Act gives homeowners a limited deduction for state and local real property taxes by increasing the amount of their standard deduction by the lesser of:

• the amount of real property taxes paid during the year, or
• $500 ($1000 for a married coupkle filing jointly)

This is a temporary deduction that is available only for 2008. Homeowners that may benefit from this deduction include those who have paid off their mortgage and are no longer itemizing their deductions.

For tax planning purposes, the 2008 standard deduction for a married couple filing jointly would increase from $10,900 to $11,900, while the deduction for single individuals would increase from $5,450 to $5,950.

Reduced Home Sale Exclusion
Under current tax law, a homeowner may generally exclude from income up to $250,000 of gain ($500,000 on a married filing jointly return in most cases) realized on the sale of a principal residence as long as the residence was owned and used for two out of the last five years. The general rule also allows for a partial exclusion if the ownership and use test is not met. The Act changes this general rule by excluding periods of “non-qualifying use” during the five-year period before a principal residence is sold. This provision applies to residences sold after December 31, 2008.

Starting on January 1, 2009, homeowners who use their home as a vacation home or for rental for some time will no longer be able to exclude the portion of the gain allocated to such nonqualified use. Fortunately, any nonqualified use prior to 2009 does not count. Certain use is not treated as nonqualified use, including leaving the home vacant and temporary absences due to a change in employment, health or unforeseen circumstances.

The following example illustrates the Act’s new provision: Mr. and Mrs. Jackson buy a home on January 1, 2009 and rent it for two years. On January 1, 2011, the Jacksons begin to use their home as a principal residence. They move out of the house on January 1, 2013, due to a change in Mr. Jackson’s employment, and sell it for $800,000 on January 1, 2014. The period from 2009 to 2010 is a non-qualifying use period. 2013 is counted as a qualifying use period because of Mr. Jackson’s change of employment. Of the $400,000 gain, 40% (two years out of five), or $160,000, is not eligible for the exclusion. The $240,000 balance of the gain ($400,000 minus $160,000) is excluded. Thus, the Jacksons would recognize a $160,000 capital gain on the sale of the home.

As the example above illustrates, significant tax planning measures will need to take place for sales of homes with post-January 1, 2009 non-qualifying use.

Other Provisions
The Act contains other provisions designed to simplify the low-income housing tax credit and the rules for tax-exempt housing bonds. In addition, the Act temporarily expands the mortgage revenue bond program to permit the refinancing of existing subprime loans, and includes real estate investment trust (REIT) reforms.

Contact the real estate and construction tax specialists at Cherry, Bekaert & Holland today to learn more about how these new provisions can help you maximize current year tax savings.