This post updates our prior offerings on the effect of the new tax law on mid-market housing prices. In particular, we continue to focus on mid-market investors in Texas and Colorado. Both houses of Congress passed the final tax bill just before the holidays, and Trump signed it into law. The new law modifies two of the provisions we discussed in our previous posts. Despite the modifications, our conclusion remains the same: the new tax law will likely have a minor negative effect on mid-market housing prices in Texas and Colorado.
Lowering cap on mortgage amount eligible for mortgage-interest deduction
The two sides met in the middle and arrived at a $750,000 cap on the mortgage-interest deduction. As detailed in previous posts, the original House bill included a $500,000 cap. The original Senate bill retained the $1,000,000 cap in current law. We previously concluded that the proposed caps were unlikely to significantly affect the middle of the housing market. That same conclusion also applies to the compromise cap in the final law.
State-and-local tax deduction
The final law as passed allows taxpayers to deduct up to $10,000 in state-and-local tax payments. These payments may include property taxes, income taxes, and sales taxes in states (like Texas) that impose no state income tax. As detailed in previous posts, the original House bill allowed a deduction for up to $10,000 of state property tax, but no deduction for other state taxes. The original Senate bill allowed no deduction at all for state and local taxes. So the final bill is more generous to state taxpayers than either of the original bills.
In Texas, homeowners who itemize will be allowed to deduct a total of $10,000 in property and sales taxes. The addition of sales taxes to the mix reduces the value of the property-tax exemption slightly, but probably not much. The maximum income tax rate in Texas is 8.25 percent. The tax exempts certain items, mainly food, prescription drugs, and over-the-counter drugs. As such, a typical middle-market buyer is unlikely to have more than a few thousand dollars in sales taxes to write off. Most buyers should have plenty of room within the $10,000 deduction limit to include most or all of their property taxes.
In Colorado, home buyers will be able to allocate the $10,000 deduction between income and property taxes. Colorado has a 4.63 percent flat income tax. This likely generates more tax liability for the typical middle-market buyer than does the Texas sales tax. As noted in our previous post on the House bill, however, Colorado has low property taxes. So this rather modest difference in property-tax deductibility is unlikely to be a major factor for middle-market home buyers.
Increase in the standard deduction
The final law as passed maintains the increase in the standard deduction from the initial proposals. So the analysis in our first post covering the House bill holds on the standard deduction. As discussed in the previous post, the change in the standard deduction is likely the most significant change in the new law for buyers and sellers in the middle of the housing market. A policy advisor at Zillow estimates that under current law, 44 percent of homes are worth enough that it makes sense for the taxpayer to itemize. The same advisor projects that only about 14 percent of homes will be worth enough to merit itemizing under the new law.
Same conclusion with supporting sources
With the increase in the standard deduction remaining unchanged from the previous bills, our conclusion also remains the same. The new law will likely have a relatively small negative effect on the middle of the housing market. A couple recent articles support this conclusion. This article from Curbed discusses a Moody’s Analytics research report. The report concludes that the new tax law will reduce nationwide housing prices by about four percent relative to what prices would have been had the tax law remained the same.
Largest impacts driven by top of market
The linked article includes a heat map showing Moody’s projections for markets throughout the US. The projections show an effect of four percent or less in much of Texas and Colorado. Each state has a few areas where the new law is projected to affect prices by four-to-six percent. And Colorado has a couple regions where the effect is projected to be more than six percent.
Looking closely, the areas projected to be the hardest hit appear to be those with the most expensive real estate. In Texas, the map indicates that the Austin is one of the markets where a four-to-six percent drop is projected. In Colorado, the map indicates that some areas around Denver and Boulder and some ski areas in the Rockies will see impacts larger than four percent. Overall, it appears that the top of the market likely drives most of the larger projected impacts shown on the map. This would explain Austin, Denver, Boulder and the Rockies. It would also explain the heavy impact shown upon swaths on the east and west coasts. The map appears to support a projection that the new law’s effect on the middle market will likely be four percent or less.
It makes sense that the bill would affect prices at the top of the market more than the middle given the provisions discussed previously. The law caps the mortgage-interest deduction at $750,000 and the state-and-local tax deduction at $10,000. Both of these changes bite more for higher-cost properties.
This article from Realtor.com reaches the same basic conclusion. It explains how the new law could hit more expensive housing markets. But its interview subjects opine that the change will likely affect the housing market throughout most of the country only slightly.
Next up: Pass throughs
Many of you are likely running your investing business as “pass through” entities. These are companies that pass their tax gains or losses through to their owners’ tax returns. LLCs and sole proprietorships are two examples. The new law has lengthy and complex provisions seeking to benefit pass-through entities. In our next post, we’ll attempt to wade through these byzantine provisions and describe in general how they might save investors on their taxes. As you read all these posts, keep in mind that we are not professional tax advisers and you should rely on your pros for definitive tax advice.