ISF News

On July 30, 2008, President George W. Bush signed into law the Housing and Economic Recovery Act of 2008 (generally referred to as the “2008 Housing Act”). 

Intended to assist the struggling U.S. housing market through affordable government-backed home loans to homeowners otherwise at risk of foreclosure, and to bolster the Federal National Mortgage Association (Fannie Mae) and the Federal Home Loan Mortgage Corporation (Freddie Mac), there are several provisions in the 2008 Housing Act that are of direct interest to taxpayers – following is a synopsis of these provisions.  For more information or to determine how these provisions impact your tax situation, please contact your ISF tax provider or email us at info@isfllp.com.

Included in the $15.1 billion package of housing tax incentives in the 2008 Housing Act  is a measure creating a new, temporary property tax deduction for non-itemizers (i.e., for taxpayers who claim the standard deduction rather than itemizing their deductions). Here is a brief overview of this new provision:

• The provision creates a new standard deduction for state and local real property taxes paid by non-itemizers. Since most homeowners who are paying on a mortgage have enough deductions (e.g., mortgage interest and property taxes) to justify itemizing them on their return, this new provision chiefly benefits homeowners who have paid off their homes.
• The deduction is available only for one year - for tax years beginning in 2008.
• The amount of deduction is as much as $500 for single filers and $1,000 for joint filers. Since this is a deduction and not a tax credit (i.e., it is not a dollar-for-dollar reduction in tax liability), the actual tax benefit will not be substantial: $100 to a couple in the 10% tax bracket and $150 to a couple in the 15% bracket (and only $50 and $75, respectively, to singles in these brackets).

The single largest provision in the 2008 Housing Act is a measure allowing individuals buying their first home to take a tax credit of up to $7,500 of the purchase price. Designed to help reduce the existing stock of unoccupied housing, the tax credit allows qualified homebuyers to subtract the credit amount from their federal income tax when they buy a home.  However, they are then required to pay the credit back over 15 years. The result is that the credit resembles an interest-free loan that must be repaid to the government. Here are the details of the new credit:

• Individuals may credit the lesser of $7,500 or 10% of the price paid for the home against tax owed in the year of purchase. The $7,500 maximum credit applies both to individuals and married couples filing a joint return. A married individual filing separately can claim a maximum credit of $3,750.
• The credit phases out for individual taxpayers with modified adjusted gross income between $75,000 and $95,000 ($150,000-$170,000 for joint filers) for the year of purchase.
• In the second year after purchase, taxpayers who took the credit must start adding the credit amount back into taxes paid incrementally over 15 years with no interest charge. This would work as follows:
• Suppose a first-time homebuyer purchases a home this coming December. He could claim a tax credit equal to 10% of the purchase price of the home or $7,500, whichever is smaller, on his 2008 tax return. Assuming for purposes of this example that the amount of his credit is $7,500, he then would be required to pay $500 (one-fifteenth of the credit) back on his 2010 tax return and on his return for each of the subsequent 14 years.
• If the taxpayer sells the home (or the home ceases to be used as the principal residence of the taxpayer or the taxpayer's spouse) prior to complete repayment of the credit, any remaining credit repayment amount is due on the tax return for the year in which the home is sold (or ceases to be used as the principal residence). However, the credit repayment amount may not exceed the amount of gain from the sale of the residence to an unrelated person. For this purpose, gain is determined by reducing the basis of the residence by the amount of the credit to the extent not previously recaptured.  No amount is recaptured after the death of a taxpayer.  In the case of an involuntary conversion of the home, recapture is not accelerated if a new principal residence is acquired within a two-year period.  In the case of a transfer of the residence to a spouse or to a former spouse incident to divorce, the transferee spouse (and not the transferor spouse) will be responsible for any future recapture.
• The tax credit is refundable, meaning that households with incomes too low to owe income taxes can still benefit from the credit.
• The credit applies to homes purchased on or after April 9, 2008 and on or before July 1, 2009. A special rule allows those who purchase a principal residence after Dec. 31, 2008, and before July 1, 2009, to treat the purchase as made on Dec. 31, 2008 (effectively allowing them to claim the credit on their 2008 returns rather than on their 2009 returns).
• A taxpayer is considered a first-time homebuyer if the individual (and the individual's spouse if married) had no ownership interest in a principal residence in the U.S. during the 3-year period prior to the purchase of the home to which the credit applies.

The 2008 Housing Act permits corporations to make an election, for the first tax year ending after March 31, 2008 (the first post-March 31, 2008 year), to have the following rules apply for the first post-March 31, 2008 year and each later year:

1. Bonus depreciation for qualified property won’t apply to any “eligible qualified property” placed in service by the taxpayer;
2. for both regular tax and AMT purposes the depreciation method under Code Sec. 168 for that “eligible qualified property” will be the straight line method; and
3. the limitation imposed by the “business credit tax liability limit” and the limitation imposed by the “AMT credit tax liability limit” will each be increased by the “bonus depreciation amount.”
4. the “bonus depreciation amount” for any tax year is an amount equal to 20% of the excess of the bonus depreciation that would be allowed for “eligible qualified property” placed in service by the taxpayer during the tax year over the amount of depreciation that would be allowed under the straight line method

To pay for the $15.1 billion of housing tax incentives in the 2008 Housing Act, Congress passed several offsetting revenue raisers, including a requirement that banks provide information returns reporting annual credit card sales to the IRS and to merchants; a provision requiring homeowners to pay tax on gains made from the sale of a second home to reflect the portion of time the home was used as a vacation or rental property; and a provision delaying for one year a “worldwide interest allocation provision” that would result in lower taxes for some multinational companies.  Following is a discussion of each of these revenue-raising provisions:

Payment card and third party network information reporting

or calendar years beginning after 2010, the new law requires banks and online payment networks to file an information return with IRS reporting the gross amount of credit and debit card payments a merchant receives during the year, along with the merchant's name, address, and taxpayer identification number (TIN). Reporting is also required for third party network transactions. Information reporting for third party network transactions will be required only for merchants that have (1) annual credit and debit card transactions exceeding $20,000 in the aggregate, and (2) an aggregate number of such transactions during the year that exceeds 200.  This measure is expected to assist the IRS in ensuring that all revenues from credit card sales are being captured in income reported on the tax returns.

Homesale exclusion rules tightened

Most homeowners are aware of the homesale exclusion, a provision of the tax laws which provides that homeowners who sell their principal residence typically don't need to pay taxes on as much as $500,000 of their gain if they meet certain conditions. (The $500,000 exemption is the maximum exclusion for a married couple filing jointly; taxpayers filing individually get an exemption of up to $250,000.) To be eligible for the full exclusion, a taxpayer must have owned the home—and lived in it as his or her principal residence—for at least two of the five years prior to the sale. Because of the “principal residence” requirement, vacation or second homes normally don't qualify for the exclusion. However, in what some saw as a loophole, the law permitted taxpayers to convert their second home to their principal residence, live in it for two years, sell it, and take the full $250,000/$500,000 exclusion available for principal residences, even though portions of their gains were attributable to periods when the property was used as a vacation or second home, not a principal residence.

The new law closes that “loophole” by requiring homeowners to pay taxes on gains made from the sale of a second home to reflect the portion of time the home was not used as a principal residence (e.g, vacation or rental property). The amount taxed will be based on the portion of the time during which the taxpayer owned the home that the house was used as a vacation home or rented out.  The rest of the gain remains eligible for the up-to-$500,000 exclusion, as long as the two-out-of-five year usage and ownership tests are met. The new law in effect reduces the exclusion based on the ratio of years of use as a principal residence to the total time of ownership. For example, if a taxpayer owned a vacation home for ten years, but lived in it as a principal residence only for the final two years prior to sale, the maximum available exclusion would be reduced by four-fifths. Accordingly, a $400,000 gain on the sale that would be eligible for the full exclusion under pre-Act law would be reduced by four-fifths, to $80,000.

The good news for current owners of second homes is that the new law is not retroactive. The tightening applies only to sales after 2008. Additionally, any periods of personal or rental use before 2009 are ignored for purposes of the provision. The new law does not change the rule that allows homeowners to take advantage of the homesale exclusion every two years.  Taxpayers can still “home hop” with full tax exclusion if they only own one home at a time.  Moreover, the taxpayer still qualifies for capital gain treatment on the amount of gain that cannot be excluded.

For more information, please contact Ireland San Filippo at info@isfllp.com

Contacts:

Courtney Smith PureMatter Brand Marketing & Interactive 408.297.7800 courtney@purematter.com

Karen Yang Ireland San Filippo, LLP 408.350.1937 kyang@isfllp.com