Housing Supply Fix? Grant Investors A Tax Exemption Benefit

Posted by urbandigs

Wed Dec 3rd, 2008 06:42 PM

A: I'm just a guy thinking out loud here about an alternative to help the housing supply problem in this country, instead of meddling with rates! Breaking news on WSJ.com states, "Treasury Considers Plan to Stem Home-Price Decline; Rates Could Be as Low as 4.5% for Newly Issued Loans". Instead of rate meddling, why not tweak the capital gains tax benefit for investors and make it similar to the tax exemption that is offered to primary residents who live in their homes for a period of 2/5 years? Let me explain.

First, the rate meddling news from WSJ.com:

The Treasury Department is considering a plan to revitalize the U.S. housing market by reducing mortgage rates for new loans, according to people familiar with the matter. The plan, which is in the development stages, would use mortgage giants Fannie Mae and Freddie Mac to bring loan rates down as low as 4.5%, a full percentage point lower than the prevailing rates for 30-year fixed mortgages.

Under the plan, Treasury would buy securities underpinning loans guaranteed by the two mortgage giants, which are temporarily under the control of the government, as well as those guaranteed by the Federal Housing Administration.
Sweet, more tinkering and more loan purchases by our government to get rates even lower than they are right now, to convince people to buy homes while the rate is low enough! Oh yea, this can't fail and I'm sure the rate meddling or loan purchases by the government has no side effects!

Instead, how about this:
GRANT THE PRIMARY TAX CAPITAL GAINS EXEMPTION BENEFIT TO INVESTORS AND CHANGE THE QUALIFICATION TERMS SO THAT THE PROPERTY PURCHASED BY THE INVESTOR MUST BE HELD FOR A MINIMUM PERIOD OF 5 YEARS
Lets look at how the tax code is right now for both primary residents and investors. Please note I am NOT an accountant or tax attorney or anything; I'm just a guy talking out loud here and wondering if this idea is more or less feasible than meddling with rates and having our gov't purchase more loans from the lovely and very honest people at Fannie Mae & Freddi Mac.

Primary Residence Tax Benefit: Homeowners who use their property as their primary residence may be exempt from paying capital gains taxes on any gain realized from the property as long as the meet the following criteria:

  • Owned the home for at least 2 years out of a 5 year period (the ownership test), and


  • Lived in the home as your main home for at least 2 years out of a 5 year period (the use test)


    • There are limits to the exemption:

    a) up to $250,000 - for a single
    b) up to $500,000 - for married couple

    Investor 1031 Exchange Tax Benefit: Whenever you sell business or investment property and you have a gain, you generally have to pay tax on the gain at the time of sale. IRC Section 1031 provides an exception and allows you to postpone paying tax on the gain if you reinvest the proceeds in similar property as part of a qualifying like-kind exchange. Gain deferred in a like-kind exchange under IRC Section 1031 is tax-deferred, but it is not tax-free.

    This is how it is now!

    What I am suggesting is to TWEAK THE INVESTOR TAX BENEFIT so that it mirrors the primary residence tax EXEMPTION, but there needs to be a control since the investor won't have plans to use the property as their primary residence. So, the control needs to have two purposes:

    1) allow the investor to use the property for investment purposes
    2) restrict the property from re-entering the housing supply for a period of 5 years

    There is a HUGE difference between tax exemption and tax deferment!

    TAX EXEMPTION - A tax exemption is an exemption from all or certain taxes of a state or nation in which part of the taxes that would normally be collected from an individual or an organization are instead foregone.

    TAX DEFERRED - Deferred tax is an accounting concept, meaning a future tax liability or asset, resulting from temporary differences between book (accounting) value of assets and liabilities and their tax value, or timing differences between the recognition of gains and losses in financial statements and their recognition in a tax computation. Ultimately, the taxes will have to be paid at a future date.

    By leveling the playing field between primary residents and investors, there is a great incentive on top of already distressed housing prices nationwide (where many houses/condos can actually be rented out for a profit) for qualified investors to buy housing supply and be incentivized at the end of the transaction. Chances are high that even after the 5 year period, the investor will choose to keep the performing asset on their books!

    Lending standards have tightened enough on their own to prevent this from spiraling out of control in terms of unqualified investors buying housing stock in response to this tax code benefit. And best of all, it is an alternative to the government meddling with rates and/or buying up loans directly from the GSE's. The government should not be interfering too much with rates for fear of ultimate side effects and convincing people to buy a home strictly because rates came to down to 4.5%! Too many people may buy for all the wrong reasons! Instead, investors will buy for the right reasons, and it could help our housing supply problem and help to stabilize the market with limited unintended consequences.

    What do you guys think? Be harsh, this is just an idea? Is this a good one, or is it flawed?

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