House Republican tax reform will slash mortgage interest deduction

Plan limits excluding capital gains from home sale

Republicans announced their new tax plan, Tax Cuts and Jobs Act, Thursday, and its implications on the housing market are much larger than expected.

The bill, H.R. 1, cuts the mortgage interest deduction in half. It’s previous limit was $1 million.

From the bill:

The aggregate amount of indebtedness taken into account under subparagraph (A) for any period shall not exceed $500,000 (half of such amount in the case of a married individual filing a separate return).

Previously, U.S. Department of the Treasury Secretary Steven Mnuchin reiterated that the mortgage interest tax deduction will stay put during the Trump administration. But just because the administration isn’t getting rid of the mortgage deduction, it doesn’t mean it can’t be changed.

Overall, President Trump plans to use tax reform to help stimulate the economy in order get to his pre-election promise of 4% GDP growth.

However, many experts feared the increase in the standard deduction, which the new plan increased from $12,000 to $24,000 per household, saying it could make the mortgage interest tax deduction less appealing, however, lowering the tax deduction has brought even more outcry from the housing industry.

“Many of the borrowers of prime jumbo loans underlying residential mortgage-backed securities live in areas with higher state and local taxes and higher property values,” said Yehudah Forster, Moody's Investors Service senior vice president.

“An elimination of deductions for individuals’ state and local tax payments and the proposed lower cap on the size of new loans eligible for mortgage interest deductions potentially will be negative for jumbo RMBS,” Forster said. “In addition, these changes could negatively affect home prices in certain higher-priced market segments, another negative.”

The conforming loan limit, aka Jumbo mortgages, which is set by Fannie Mae and Freddie Mac, is $424,100 in most counties, however it can reach up to $636,150 in more than 100 different counties where home prices are higher.

The National Association of Realtors, who has been one of the most vocal defenders of the mortgage interest deduction, released this statement on the new plan:

“We are currently reviewing the details of the tax proposal released today, but at first glance it appears to confirm many of our biggest concerns about the Unified Framework,” NAR President William Brown said. “Eliminating or nullifying the tax incentives for homeownership puts home values and middle class homeowners at risk, and from a cursory examination this legislation appears to do just that. We will have additional details upon a more thorough reading of the bill.”

So should buyers look to secure their mortgage today, before the tax plan takes effect? Actually, it’s already too late.

In the case of any pre-November 2, 2017, indebtedness, this paragraph shall apply as in effect immediately before the enactment of the Tax Cuts and Jobs Act, the report states.

However, there is an exception for those who are already entered into a contract. Home buyers purchasing their primary residence who were in a binding contract before November 2 and are scheduled to close before January 1, 2018, are exempt from the new rule, as long as the contract closes before April 1, 2018.

And reducing the mortgage interest deduction isn’t the only change the housing market will see due to the new tax plan.

Currently, homeowners are allowed to deduct the profits from the sale of their home from their taxes if it is their primary residence. They must have lived in the house two out of the past five years, and can deduct the gains once every two years.

The GOP’s new plan changes the requirements to say the seller must have lived in the home for five of the past eight years, and may only collect on the benefit once every five years.

But this deduction will fall off completely for higher income earners. From the plan:

If the average modified adjusted gross income of the taxpayer for the taxable year and the two preceding taxable years exceeds $250,000 (twice such amount in the case of a joint return), the amount which would (but for this sub-section) be excluded from gross income under subsection (a) for such taxable year shall be reduced (but not below zero) by the amount of such excess.

Unlike the mortgage interest deduction change, this shift would take effect at the beginning of 2018.

Some members of the housing industry expressed their approval of the new bill, saying it would put more money in the pockets of middle-class Americans.

“The proposal to double the standard tax deduction is one piece of the Congressional Republicans’ tax plan that could put more money in middle-income Americans’ pockets,” Zillow Chief Economist Svenja Gudell said. “For many Americans struggling with high housing costs and for young adults paying high rents and dreaming of buying their first home, this could be something of a reprieve.”

“By capping deductions for mortgage interest and property taxes, the proposals would reduce the ways higher income taxpayers can limit their tax bill,” Gudell said. “In particular, higher-income homeowners in high cost/high tax states could see their tax bill go up.”

And she isn’t the only one with this opinion. Previously, Trump’s Chief Economic Advisor Gary Cohn said, “People don't buy homes because of the mortgage deduction.”

Dan Gilbert, Quicken Loans founder and chairman agreed with Cohn, saying people buy homes because they are excited about the economy, not because of the mortgage interest deduction.

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