When the new federal tax law was passed in December 2017, many housing market observers felt it would remove many of the tax incentives of home ownership.
One of the biggest changes in the tax law is mortgage interest deduction. The new law:
- Reduces the limit on deductible mortgage debt from $1 million to $750,000 for new loans taken out after December 14, 2017. This also applies to second homes.
- Eliminates the ability to deduct mortgage interest on a home equity loan if the funds are not used to substantially improve the home. For example, if you take a home equity loan to pay down credit card debt, you will not be able to deduct the interest payments starting this year.
In addition to these changes, the new tax law is increasing the standard deduction. Beginning in 2018, single filers will be able to deduct $12,000 from their taxable income, while married filers can deduct $24,000. In 2017, those deductions were $6,500 and $13,000. The standard deduction will subsequently be indexed for inflation.
By making the standard deduction so high, it’s estimated that less than 10 percent of taxpayers will have enough deductions (e.g. mortgage interest, student loan interest, property taxes, gifts to charity, etc.) to itemize. Prior to the tax act, about 30 percent of tax filers itemized.
Therefore, for most Americans, there is no tax savings between renting and owning a home.
Does that mean you should reconsider buying a home, or at the very least, deciding to rent a little longer?
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Real estate watchers are concerned that these changes minimize the tax incentives of home ownership to the point where it may keep some people from buying a home. This would create less demand, which could restrain home values.
In fact, Mark Zandi, chief economist at Moody's Analytics, told Business Insider that by the summer of 2019, “national house prices will be approximately 4 percent lower than they would have been if there were no tax legislation.”
Futhermore, the National Association of Realtors (NAR), after analyzing the tax changes, said that home price growth would be slower than it would be without the tax law, though the lack of housing inventory will offset some of those negative impacts.
“However, some local markets, particularly in high cost, higher tax areas, will likely see price declines as a result of the legislation’s new restrictions on mortgage interest and state and local taxes,” says the NAR.
NAR ran several scenarios how tax changes would impact renters and homeowners. In one scenario, a couple with a combined annual income of $120,000 and who are renting would see their tax obligation fall from $11,370 to $8,999, a cut of about 21 percent.
The same couple as homeowners would receive a tax cut of just $100 a year, from $8,151 to $8,050.
As the NAR explained:
“What happened is that the new law is taking away most of the tax benefits of owning a home. Under the prior law, this benefit was $3,219. But under the new law, they enjoy only a benefit of $948. This gives them a benefit of just $79 per month, which is obviously a far weaker incentive to own.”
On the other hand, the new tax law adjusted tax brackets so that most taxpayers will owe less in federal income taxes. How much you save on income taxes will depend on your income and filing status. Assuming most high-income taxpayers have a lower tax bill, that means they have more to spend on housing.
The bottom line is that, while the new tax law removes some financial incentives to buying a house, it doesn’t necessarily make it more advantageous to continue renting.
It’s possible that for residents there is less incentive to jump into the housing market with fewer tax incentives to count on. But physicians who are more established and have more deductions may still be able to itemize their taxes and therefore still enjoy the tax incentives of homeownership.
Either way, if you are thinking about or planning to buy a home, the changes in tax laws probably shouldn’t prevent you from moving forward.
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Joel Palmer is a writer and personal finance expert who focuses on the mortgage, insurance, financial services, and technology industries. He spent the first 10 years of his career as a business and financial reporter.