Tax reform changes: owning real estate

What do you need to know?

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Bradley S. Dimond, CPA

Now that tax season is over, it’s already time to start looking ahead to your 2018 return – especially in light of the new tax law. One area you’ll see an impact, as well as some potential tax planning opportunities, is real estate.

Home mortgage interest

The new tax law changes the amount of home mortgage interest you can deduct (but see the “grandfather” rule outlined below). Under the old law, you could deduct interest on a mortgage up to $1 million. Now, it’s up to $750,000. If you’re buying a home and can put more money down to get your mortgage down to that $750,000 threshold, it might be more tax efficient for you because it would lower your “after-tax” interest rate versus borrowing more than $750,000.

There are changes to home acquisitions after December 15, 2017. If you acquired your home and had a mortgage up to $1 million before December 15, 2017, you’re essentially grandfathered in under the old tax rules which allow you to deduct the interest on a mortgage up to $1 million.

Owning multiple homes

There had been talk in the proposed legislation to limit this deduction to only one home. No change was made, however, to the current rules regarding deductibility of mortgage interest on two homes. So, if you own two homes, you can deduct all the interest, as long as it does not exceed that $750,000 threshold for both homes or $1 million for homes purchased before December 15, 2017.

Home equity line of credit

Under the old law, you could deduct a home equity line of credit up to $100,000, irrespective of what you used the money for (although there were Alternative Minimum Tax implications if you did not use the cash for home improvements). The new law did away with the mortgage interest itemized deduction with respect to cash out refinancing.

You may still be able to get a deduction related to your home equity line of credit in certain situations. For example, you take money out to buy an investment; that should still qualify as an investment expense deduction. For example, if you use the money to buy stocks and bonds, this would be investment interest which you can deduct against the dividend or interest income on the stocks and bonds. You can’t take a deduction if you use the money for personal purposes such as buying a new car.

Itemized deductions phase-out

Here’s a taxpayer-friendly change that came out of the new law. Previously, your itemized deductions would phase out once you’re over a certain income level. So, if you had a high income and a lot of mortgage interest, you might lose out on your deduction. That phase-out for itemized deductions is now gone; so conceivably, someone who is buying a new home, even subject to the $750,000 mortgage limit, might end up with a higher deduction in the new law over the old law – a so-called math dependency.

Property taxes

Before the Tax Cuts and Jobs Act (TCJA) passed, you could deduct your property taxes on Schedule A and there was no limitation. Under the new law beginning in 2018, you can only deduct $10,000 total in state and local income taxes and real estate taxes. People living in Arizona won’t be as affected by this as taxpayers in California or New York, where income and property taxes are a lot higher.

Arizona credits + property taxes

As you know, Arizona has several income tax credits available to taxpayers. Let’s say you donate $1,000 to a school tuition organization. You get to take that donation off your Arizona income tax bill, dollar for dollar. Presumably, donations such as these help alleviate some of the support the government would normally give to these types of organizations.

Some states – including California – are looking at whether you can divert your property taxes to a charitable organization so you can take a charitable deduction for what would have been your property taxes. Basically, the state is saying, instead of you paying us to then turn around and use your money to support the school, you just make a charitable donation to the school and you get to take a charitable deduction.

Home sale gains

These rules have not changed. You still get to exclude $500,000 if you’re a married couple and $250,000 if you’re a single taxpayer. You must also have lived in the home for a minimum of two of the last five years. There was talk this would change, but it did not.

Moving expenses

If you’re moving for a job, you will no longer be getting a tax break. Starting in 2018, the TCJA suspended both the deduction for qualified moving expenses AND the exclusion from employee income of employer reimbursements. That means your new employer can still choose to reimburse you for moving, but any reimbursement would have to be included in your taxable wages. These new rules are effective through 2025 when the TCJA expires.

The only exception is for active-duty members of the Armed Forces and their immediate family members who have to move because of a military order that requires a permanent change of station.

Casualty + theft losses

Under the new law, casualty and theft losses are no longer deductible, so if something were to happen to your home, you cannot take a deduction for the loss. It’s now more important than ever to make sure you have proper insurance coverage on your home or property. The one exception would be if you live in a federally declared disaster area, such as an area hit by a hurricane or wildfires.

Energy credits

The credits for energy efficient improvements such as exterior doors and windows, insulation, heat pumps, etc., survived the tax law changes but it seems like these sorts of incentives are always on the chopping block. There are also credits for alternative energy systems such as geothermal heat pumps, small residential wind turbines, fuel cells and solar energy systems. These credits had expired at the end of 2016, and were not brought back by Congress until 2018, though retroactive back into 2017.

Medical improvements

If you need to make medical improvements to your home, such as installing a ramp or grab bars, you’re going to want to do that this year. Under the TCJA, in 2017 and 2018, you can deduct medical expenses that exceed 7.5% of your AGI. So, if you make $150,000, you have to have at least $11,250 of medical expenses to take the deduction.

In 2019, that threshold will go back up to 10% of your AGI, meaning if you make $150,000, you have to have at least $15,000 in medical expenses to take the deduction. On your Arizona return, however, there are no limitations. So, at a minimum, you’ll save on your state return and every little bit can help.

Changes expected

This is a new law, and with major changes to tax provisions, there will likely be unintended consequences and questions that need to be addressed. Last time a tax overhaul of this magnitude was passed was 1986 and there were a lot of issues to address the following year. You can stay updated on these changes by subscribing to our Tax Insights blog. And, of course, if you have questions, call your Henry+Horne tax advisor.

Bradley S. Dimond, CPA, Partner, specializes in tax consulting + compliance services for closely held businesses and their owners in various industries including real estate, restaurant and hospitality, manufacturing and more. You can reach Bradley at BradD@hhcpa.com or (480) 483-1170.