Tax reform is on the horizon but probably won't be implemented for this year. The proposal, which was three years in the making, negatively impacts home owners since it places limits on the mortgage interest deduction and capital gains as well as doing away with state and local property tax deductions.
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The comprehensive tax reform discussion draft that House Ways & Means Committee Chairman Dave Camp, R-Mich., released yesterday envisions a very different picture for home owners than what’s in place today. In a statement about the plan, NAR President Steve Brown says the association is concerned with many of the proposals.
“Proposed limits on the mortgage interest deduction and capital gains, and the repeal of deductions for state and local property taxes ... will impact every single American, either directly or indirectly,” Brown says.
Under the plan, today's seven tax brackets — which range from 10 percent to 39.6 percent — would be reduced to three: 10, 25, and 35 percent. The size of the standard deduction would be nearly doubled.
The discussion draft envisions the vast majority of households paying a lower tax rate under the changes, although households earning more than $450,000 would also face the new 35 percent tax rate, and on a much broader income. Also, the deduction for personal exemptions would be eliminated, as would many other longstanding deductions and credits.
Perhaps the most significant change for home owners would be the repeal of the deduction for state and local taxes paid. Under the plan, no amount of property tax would be deductible. This would also have the effect of taking away the mortgage interest deduction (MID) for millions of home owners who currently claim it because their total itemized deductions would fall below the newly-increased standard deduction threshold.
Also for homeowners, the maximum mortgage amount eligible for the MID would be reduced from today's $1 million to $500,000 over four years, starting in 2015. The maximum mortgage amount would be $875,000 in 2015, $750,000 in 2016, $625,000 in 2017, and $500,000 thereafter. Mortgages in place in 2014 and earlier would be grandfathered in under today’s $1 million maximum. Also, interest on home equity loans would no longer be deductible.
Americans selling their homes would also be affected by changes to the exclusion of gain from the sale of a principal residence. Instead of being eligible for the exclusion by owning and living in a home for two of the past five years, the proposal would increase this to five of the past eight years. It would also phase out the benefit of the exclusion for higher-income taxpayers.
The plan envisions these changes making the standard deduction more attractive. “Far fewer taxpayers [about 5 percent] would choose to itemize overall,” the discussion draft prepared by the House Ways & Means Committee says, “with the remaining 95 percent of taxpayers finding they are better off by taxing advantage of the larger, simpler standard deduction instead.” While this would decrease complexity, it would actually eliminate the tax benefits available today for most home owners.
Other changes would negatively affect commercial and investment real estate. The like-kind exchange provision, which allows gain to be deferred on certain real estate transactions, would be repealed. Depreciation schedules for real property would also be lengthened, and the tax rate on gain from previously taken depreciation would be increased.
The plan, which was three years in development, is unlikely to go anywhere this year, House and Senate leaders of both parties have made clear. “I have no hope for [tax reform] happening this year,” Senate Minority Leader Mitch McConnell, R-Ky., says in a statement reported by The New York Times, Washington Post, and other major media yesterday.
House Speaker John Boehner, R-Ohio, called the draft just the start of the discussion on tax reform.