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The full House and the Senate Finance Committee each passed their version of tax reform legislation. The entire Senate plans to up the measure in the coming days. Should it pass, the two bills will get reconciled before being sent to President Trump’s desk for his signature.
While the bill is moving through the process at very quickly, it is difficult to predict how this might affect New York City real estate. Our focus is to outline the main elements in the proposed legislation that could impact New Yorkers, with the understanding that things could change as negotiations take place to secure senators’ support, given Republicans narrow 52-48 majority in the chamber.
Real Estate Tax Legislation
The elimination of the state and local income tax deduction (SALT) has received a lot of attention. This affects those that itemize rather than take the standard deductions.
It is unclear if people will migrate to states with lower income taxes since New York offers many opportunities, including economic and cultural. If people leave, there are long-term effects, such as a reduction in the tax base, which affects funding for items such as schools. This can have a circular impact, causing more people to exit.
Still, at the very least, it makes New York City more expensive since residents’ tax bill will no longer be effectively lowered.
Both the House and Senate versions eliminate the SALT, but the House bill preserves the property tax deduction, but only up to $10,000. The Senate version that passed the committee vote does not allow the deduction of property taxes.
The proposed bill lowers the amount you can deduct for mortgage interest. If you purchase a home, you can deduct interest on a mortgage up to $500,000. This is down from the current $1 million.
Since the average price for New York City home reached $1.05 million in the second quarter, according to data from the REBNY, it is relatively easy to take out a $500,000 mortgage. Based on this price, the mortgage would be over $800,000 if a buyer puts down 20%.
Limiting the amount you can deduct for mortgage interest essentially makes borrowing more expensive for buyers in major cities such as New York. This could limit the pool of buyers, hurting demand and housing prices over the long-term.
Individual’s bottom line
The tax benefits of homeownership may diminish should the tax legislation come to pass, which makes the cost effectively higher. Financially, the decision to purchase a home remains weighing the costs/benefits of home ownership versus renting.
Pass-through entities, such as LLCs, will see preferential tax treatment under both bills. Under the House bill, the maximum tax rate is 25%. It is a more complicated in the Senate’s contemplated version, which would allow a deduction of a certain percentage of income, without a preferential rate. Under the existing tax law, LLCs are taxed at the same rate as your personal income, which currently tops out at 39.6%.
For real estate investors, this could prove beneficial. Under the House plan, you come out ahead if your personal tax rate is higher than 25%, while all LLCs benefit under the Senate version. An LLC would retain the ability to deduct mortgage interest and property tax.
Whom to watch?
With a slim majority in the Senate, three Republicans can decide the bill’s fate. Ron Johnson has come out against the bill. Assuming he stays in the no column, Republicans can afford to lose more than two votes.
It is unclear how these senators will vote, but these are individuals people are watching. Senator Murkowski, a key vote against Republican health care bill, stated she could support the chamber’s individual mandate repeal. Senator McCain, who also voted against the health care bill, stated he supported the process this time, a key reason he was against the health care bill.
Senator Collins of Maine has stated she wants to see changes, and Senators Bob Corker and Jeff Flake, neither of whom are running for re-election, are deficit hawks and could vote against the bill on that basis.