The Housing and Economic Recovery Act of 2008 Hurts, Not Helps, Homeowners

The new Housing and Economic Recovery Act of 2008 is supposed to stop foreclosures and help out the hard-hit housing market. I can’t for the life of me see how this is going to help.

First, let’s start with the positive. This won’t take long. There is a $7,500 tax credit for first time home owners. But, it’s not really a credit, it’s a loan because you have to pay it back. With today’s credit market like it is, I’m just not sure that $7,500 is going to make that big of a difference for someone looking for a home. Figure you’re going to have to come up with 20% and if you’re buying a home for $200,000, that’s $40,000. Is $7,500 going to make the decision for you?

And there is an “above the line” deduction now available for property tax. If you don’t itemize, you’ll still get to take the deduction. This must be targetted at helping people who have very low or no loans on their property. Otherwise, the mortgage interest amount will allow you to itemize.

Now, here’s the part that I have trouble with. There is a change to the principal residence exclusion. You might remember the old rule of “live in it for 2 of the previous 5 years” and you’ll get a capital gains exclusion of $250,000 if you’re single and $500,000 if you’re married filing jointly.

Now, it’s more complicated. If you buy a property and don’t immediately make it your principal residence, you won’t get the full advantage of the capital gains exclusion. For example, let’s say you buy a property as a vacation property. Then five years later, move into it for the next 15 years. You would only be able to exclude 75% (15 out of 20) of the gain. It doesn’t matter if the gain was only $50,000 and a fraction of the capital gains exclusion, that’s all you get.

If you make the property your principal residence first, then the 2 out of 5 seems to apply.

One additional problem I see for a lot of my clients is for people who are building their custom dream home. I’ve done that before myself. Richard & I lived in our old principal residence until the new house was completed. It took about a year. In that time, the new property was not our principal residence So, presumably, under this new law when we sold our dream house (guess it really wasn’t our dream after all) two years later, we’d have only been able to exclude 2/3 of the gain. That would have really hurt us tax-wise!

The IRS still has to write the regulations to go along with the new law and that’s where the details work out on most of this. Until then (and it can take 2 years or more), CPAs give it their “best guess” in determining the nuances and details of application.

All in all, though, I’m concerned for my clients who have dream houses under construction or who are picking up screaming deals in today’s market for their future personal use.