In addition to low house prices and low interest rates, first-time homebuyers have another incentive out there: a federal tax credit, worth up to $8,000. But taking advantage of it isn’t that simple. CPA John Finnerty, tax principal at Lefkowitz, Garfinkel, Champi & DeRienzo PC explains.
PBN: The first-time homebuyers tax credit isn’t necessarily just for first-time homebuyers. Could you outline the criteria for those eligible for the tax credit?
FINNERTY: Individuals who become first-time homebuyers in 2009 are entitled to a refundable tax credit if they make their purchase before Dec. 1. The tax credit is equal to 10 percent of the home’s purchase price up to a maximum of $8,000. A person is considered to be a “first-time homebuyer” if they (or spouse, if married) had no present ownership interest in a principal residence in the United States during the three-year period before the purchase of the home to which the credit applies. Ownership of a vacation home or rental property not used as a principal residence does not disqualify a buyer as a first-time homebuyer.
In general, any home purchase qualifies but only if the property is not acquired from a person related to the buyer or by gift or inheritance. A related person includes (among others) your spouse, ancestors (parents, grandparents, etc.), or lineal descendants (children, grandchildren, etc.).
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PBN: There have been questions about the strings attached. Do you have to own the house you’re purchasing for a certain amount of time? Does it have to be your primary residence? Other requirements?
FINNERTY: In addition to the above requirements, the residence that is purchased must be your principal residence (located in the United States) to qualify for the credit. Additionally, if the home for which the credit was taken ceases to be your principal residence within 36 months from the date of purchase, the credit is repaid. You repay the credit by including it as additional tax on the return for the year the home ceases to be your main home. If the home continues to be your main home for at least 36 months beginning on the purchase date, you do not have to repay any of the credit.
The homebuyer credit phases out for individuals with modified adjusted gross income between $75,000 and $95,000 ($150,000 and $170,000 for married couples filing joint return) for the year of purchase.
PBN: How does one actually receive the credit? Is it part of the homebuyers income tax filing for 2009? Isn’t there an option to go back and amend the tax year 2008 filing? Why would someone do that?
FINNERTY: The refundable tax credit is claimed by completing Form 5405. This form is filed along with the individual’s income tax return (Form 1040). The credit is equal to the lesser of 10 percent of the purchase price of a principal residence or $8,000. The credit is refundable, which means that the credit can reduce your tax to zero. And if there is any additional credit available to you, it will be refunded.
For example, if a qualified homebuyer’s federal income tax was $5,000 and had federal tax withholding of $4,000 for the year, then without the tax credit the taxpayer would owe the IRS $1,000 on April 15. Suppose now that the taxpayer qualified for the $8,000 homebuyer tax credit. As a result, the taxpayer would receive a check for $7,000 ($8,000 minus the $1,000 owed).
You are correct: Eligible first-time homebuyers who purchase a principal residence after Dec. 31, 2008, and before Dec. 1, 2009, may elect on an amended return to treat the purchase as made on Dec. 31, 2008. This election effectively allows eligible first-time homebuyers who make a timely purchase in 2009 to receive the $8,000 credit more quickly, instead of having to wait until they file their 2009 returns.
PBN: If a relative is giving financial assistance to a first-time homebuyer with this credit, what is the most tax-efficient way of handling that?
FINNERTY: As discussed previously, an individual is not eligible for the credit if they purchase a principal residence from a relative. Thus, a parent (or grandparent), who may be in a better position financially, could not purchase a home and then sell that home to a relative and have that relative qualify for the credit.
There are probably three ways that a relative could provide financial assistance: (1) make cash gifts, (2) make gifts of appreciated property, and (3) make a low-interest loan.
The annual per-donee gift tax exclusion ($13,000 for 2009), makes it possible for parents to give children major assistance with the down payment for a home purchase. Each parent can give $13,000 to the child, for a total of $26,000, and if the child is married, each parent can do the same with the son- or daughter-in-law, for a total gift-tax-free amount of $52,000. (Grandparents can do the same).
Instead of making a cash gift to help with the down payment, a parent or grandparent may consider gifting appreciated stock, mutual-fund shares, and other securities that have been held for more than one year to their children if the latter are lower-bracket taxpayers. The children can then sell the securities, perhaps incur a lower tax liability, and use the funds for the home purchase.
A parent can consider giving a child a loan (instead of, or in addition to, a gift of cash or securities) to make first-time homeownership possible. The loan can cause complex imputed interest problems if it is a “below market interest” loan. However, a parent can avoid all of these problems — and still give the child a major break – by charging the child interest at the appropriate applicable federal rate (AFR), which is very low these days. For example, for loans made in September 2009, the short-term AFR (term loans with a term not exceeding three years) is 0.84 percent, the mid-term AFR (term loans over three years but not over nine years) is 2.83 percent, and the long-term AFR (term loans over nine years) is 4.29 percent.
PBN: What other tax issues must someone who is taking advantage of the credit watch out for?
FINNERTY: Often, first-time homeowners also will become a first-time itemizer due to the deductions for interest and property taxes, enabling them to deduct other expenses (e.g., medical, charitable, miscellaneous itemized deductions) they could not claim before.
Buying a first-time home late in the year may require only a small amount of real estate taxes and mortgage interest to be paid for 2009. As a result, the purchaser may be claiming the standard deduction in 2009 before becoming an itemizer in 2010. It is also possible in 2009 for taxpayers who claim the standard deduction instead of itemizing deductions to claim an additional standard deduction for state and local property taxes paid. The deduction cannot exceed the lesser of state and local property taxes actually paid or $500 ($1,000 for joint return filers).
