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How Will Tax Reform Affect the DC Area Real Estate Market?

Early drafts of the Tax Cuts and Jobs Act slashed many of the tax incentives for homeownership. For generations of American families, owning a home has been a cornerstone of economic stability and wealth creation. During the tax bill revision process, the key question the National Association of Realtors lobbyists pushed lawmakers on was, “Do we want a country of renters or a do we want a country where people own their own home?”

Most of the changes to the tax law changes relating to DMV real estate market were either very incremental or left unchanged. The mortgage interest deduction is still allowed, except the new cap is $750K instead of $1 million. Real estate investors still retain investment deductions. The capital gains tax exclusion remains the same; you still have to live in a property for two out of the last five years to avoid paying capital gains tax on a primary residence and the tax-free-gains cap is still $250K for single taxpayers and $500K for jointly filing taxpayers. If you finance a second mortgage as part of your property acquisition or take out a  line of credit to improve an existing home, you can still deduct that mortgage interest. You can no longer claim a deduction for a second mortgage in excess of your acquisition financing, or take a deduction for a HELOC you don't use for home improvements. Finally, there is no longer a deduction for second homes.

The largest change in the tax law as it affects the DC area market is that the new state and local tax (SALT) deduction cap of $10K, where previously there was no limit. The new $10K SALT cap, coupled with the increased standard deductions of $12K for individuals and $24K for joint filers, is the biggest negative for those in areas with high property taxes and high housing prices. In short, fewer people will be eligible to claim itemized deductions, which negates some of the income tax incentives of ownership. A key point to keep in mind regarding this change is that well-heeled Washingtonians most affected by the SALT deduction cap are also the same folks who will have more take-home pay under the new tax law. Individuals in higher tax brackets are also more likely to own than their less well-off counterparts; under the new law, higher wage earners will have more after-tax income to spend on securing their piece of the American Dream.

Moving forward, there is no “one size fits all” rule that can be applied universally when it comes to calculating the tax benefits of ownership. The big question everyone is asking now is, “How will the tax revisions affect the DC real estate market?” The quick answer is, not very much at all.

Since emerging from the housing crisis, the main real estate story here in the nation’s capital has remained the same...There are too many buyers chasing too few properties. Today, that is still very much the case. Despite some small changes relating to income tax incentives, most Washingtonians still aspire to control a piece of real estate in one of the world’s most powerful cities. Renters still have plenty of reasons to take the leap into ownership: Paying off your own mortgage instead of someone else’s mortgage. The security of a fixed payment and putting roots down in one of DC’s many great neighborhoods. The forced-savings-plan that is a part of nearly every mortgage product. The potential for appreciation in a region that has even more going for it every year.

DC metro areas that offer a walkable lifestyle, access to high-quality jobs, access to public transportation, and access to great public schools should continue to see strong demand. Additionally, some major shifts in American culture are pushing demand in the DMV: Baby boomers are downsizing and ditching the car, young families are choosing more urban areas to raise their children, high paying job growth is focused on major urban centers where successful companies are most able to attract talent. As the local real estate market continues to grow and evolve, the city has become an increasingly vibrant, diverse, and exciting place to live.

We've made some very conservative estimates based on historical averages and broken down three scenarios for potential buyers and renters under the new tax law below.

$300K Purchase over 60 Months vs Renting

 Rent5% Down20% Down
P&I Payment $1,525 $1,402 $1,181
Principal Paid $0 $26,198 $22,062
New Tax Benefit $14,400 $16,232 $14,400
Net Cost $82,664 $61,443 $48,650
Total Equity $0 $88,980 $129,844

Assumptions

Rental Increase: 3%   |   Appreciation: 3%   |   Tax Bracket: 24%  |  Mortgage Interest Rate 4.25%

This analysis was designed to display an example of the tax benefits of homeownership over a 60 month period. The first column shows the amount of rent and the second and third columns reflect estimated monthly payments for the proposed purchase of a new home.


$600K Purchase over 60 Months vs Renting

 Rent5% Down20% Down
P&I Payment $2,725 $2,804 $2,361
Principal Paid $0 $52,396 $44,123
New Tax Benefit $14,400 $33,184 $28,794
Net Cost $114,519 $122,769 $97,182
Total Equity $0 $177,960 $259,687

Assumptions

Rental Increase: 3%   |   Appreciation: 3%   |   Tax Bracket: 24%   |  Mortgage Interest Rate 4.25%

This analysis was designed to display an example of the tax benefits of homeownership over a 60 month period. The first column shows the amount of rent and the second and third columns reflect estimated monthly payments for the proposed purchase of a new home.


$900K Purchase over 60 Months vs Renting

 Rent5% Down20% Down
P&I Payment $4,075 $4,206 $3,542
Principal Paid $0 $78,594 $66,185
New Tax Benefit $19,200 $70,071 $55,467
Net Cost $240,139 $155,367 $136,423
Total Equity $0 $281,019 $389,532

Assumptions

Rental Increase: 3%   |   Appreciation: 3%   |   Tax Bracket: 32%   |  Mortgage Interest Rate 4.25%

This analysis was designed to display an example of the tax benefits of homeownership over a 60 month period. The first column shows the amount of rent and the second and third columns reflect estimated monthly payments for the proposed purchase of a new home.


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