Changes being proposed to the federal tax code have significant implications for residential and commercial real estate. Joe Luca, the 2018 president of the Rhode Island Association of Realtors, agreed to respond to questions posed by the Providence Business News about changes being considered by the U.S. House, which was preparing to vote on its proposal this week. Some of the biggest changes in the proposal include the doubling of the standard deduction and a scaling back of most deductions, including the popular mortgage interest deduction.
PBN: The elimination of the mortgage interest deduction for properties worth more than $500,000 seemed to take people by surprise. How long have Americans been able to deduct mortgage interest, and is this a dramatic change?
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LUCA: In 1913, the 16th Amendment gave Congress the authority to tax income and provided deductions for any interest paid. In 1986 that was cut back to only mortgage interest being deductible. The increase in the standard deduction in pending tax reforms puts homeownership tax incentives beyond the reach of more than 90 percent of American families.
PBN: If this is approved, and you hold a mortgage valued at more than $500,000, you cannot deduct the interest, retroactive to Nov. 2. Who will that impact in Rhode Island and where are these homes?
LUCA: To clarify, the cap applies to new mortgage debt (but not refinancing) incurred after Nov. 2, 2017. The limit is not indexed to inflation, causing its value to even further diminish over time. These homes are scattered all around the state, as are houses priced all across the pricing spectrum. This will directly impact families from Burrillville to Westerly.
PBN: Another change would cap at $10,000 the amount of state and local property tax that can be deducted. Who does that affect?
LUCA: Again, the folks affected by this “cap” would be in all parts of the Ocean State. Let’s not forget that since we have some of the highest property taxes in the country, many people are paying lots of property taxes, whether in Woonsocket or Barrington. These are all hardworking Rhode Islanders who live in older housing and newer housing, small homes and larger homes, condos and multifamily properties too.
PBN: In general, will home values be affected across Rhode Island by such changes?
LUCA: According to the National Association of Realtors, property values could decline on average as much as 10 percent.
PBN: What else is in the tax bill that may impact real estate? Is the loss of the deduction for student loan interest a factor, or too early to tell?
LUCA: That is definitely a factor, but the commercial real estate industry will also be impacted profoundly. Many folks think that commercial real estate is just rich people and large corporations. That couldn’t be further from the truth. The specific change that we are concerned about is the elimination of the “1031 exchange” or “like-kind exchange.” The IRS provides an exception and allows you to postpone paying tax on the gain (from a sale of a commercial property) if you reinvest the proceeds in similar property as part of a qualifying “like-kind” exchange. This could be a small investor who sells a three-family tenement and wants to purchase a four- or five-unit property with the “gain,” or it could be the owner of an office tower (many times a pension or retirement fund) that wants to sell one property and purchase another office tower. In both of these cases, it is the “small guy” who is impacted, and rest assured there are many of these types of investors.
There are also limits on the exemption on capital gains tax from the sale of a primary residence. New rules would require homeowners to live in their home for five of eight years before a sale to qualify for the exemption, versus just two of the previous five years today. This will create a hardship for homeowners who have to move inside that five-year window.
Mary MacDonald is a staff writer for the PBN. Contact her at macdonald@pbn.com.
