I’ve heard about a tax credit for first time homebuyers. How does this work and who’s qualified?

As I’ve been saying for at least the last year, this is a Buyer’s Market par excellence–in all my years working as a Realtor and having seen all kinds of markets, I’ve never seen a market this predisposed to the Buyer. My advice to anyone thinking about buying a home and still sitting on the fence–get off the fence and buy, buy, buy! Here again are just a few reasons why it’s a great time to buy:

There is a ton of inventory out there; many, many homes looking for buyers. Contrary to the hot Seller’s market of a few years ago, you’re not likely to run up against “competition” and rush to get an offer in front of a seller, competing against other anxious buyers and “bidding up” the price of the home. You can take your time to see plenty of homes and decide which one may be the right choice for you. Homes are taking much longer to sell these days, too, with the average days on market for homes in Portland Metro now about 120 days or so. Many, if not most, homes arrive on the market well-priced, if not fantastically priced, and more often than not they will go through one or more “price reductions” before finding a willing buyer. Add to that, that many homesellers are motivated to find the right buyer and bring a deal to closing, so in addition to price flexibility, they often are offering other inducements to buy. These might be Seller help with the Buyer’s closing costs, or credits toward pre-paid Buyer expenses, or throwing in freebies to sweeten the deal, such as appliances or home warranty programs.

And “YES, Virginia,” you CAN get a loan! Hardly a day goes by that I don’t hear from someone “no one can get a loan these days.” False. Yes, we have had a credit crisis and there are still industry-wide problems with financing. But to say “no one can get a loan” is just patently false. Sure, the days of easy money and 100% financing with no documentation are over, but that’s probably just as well. Assuming you have reasonably decent credit and can document sufficient income and/or assets, there are plenty of good, honest loan officers still out there (just ask me for referrals any time and I’ll be glad to recommend some great ones) dying to get you a loan. The FHA loan has made a huge comeback in this market of tightened credit, and you can purchase a home still for 3% down (that will go up to 3.5% on January 1st).

So, on top of all this, the government is offering a first-time homebuyer’s tax credit of up to $7500 to help with your home purchase. This is not a “rebate” but more like an interest-free loan, to be paid back incrementally over a 15 year period. This was passed by Congress in August as part of the economic stimulus package, to help folks get into homes in an effort to jump-start the economy. The purpose is to free up more capital in your pocket during the homebuying process, to make that home purchase more affordable. Bear in mind that this won’t last forever, and in order to qualify you must close on the home purchase by June 30, 2009. Below you’ll find a lengthy but I think pretty clear and thorough list of FAQs about the $7500 tax credit, courtesy of the National Assoc. of Home Builders:

• 1. Who is eligible to claim the $7,500 tax credit?
  First time home buyers purchasing any kind of home-new or resale-are eligible for the tax credit. To qualify for the tax credit, a home purchase must occur on or after April 9, 2008 and before July 1, 2009. For the purposes of the tax credit, the purchase date is the date when closing occurs.
• 2. What is the definition of a first-time home buyer?
  The law defines “first-time home buyer” as a buyer who has not owned a principal residence during the three-year period prior to the purchase. For married taxpayers, the law tests homeownership history of both the home buyer and his/her spouse. For example, if you have not owned a home in the past three years but your spouse has owned a principal residence, neither you nor your spouse qualifies for the first-time home buyer tax credit.
• 3. What types of homes will qualify for the tax credit?
  Any home purchased by an eligible first-time home buyer will qualify for the credit, provided that the home will be used as a principal residence and the buyer has not owned a home in the previous three years. This includes single-family detached homes, attached homes like townhouses, and condominiums.
• 4. Instead of buying a new home from a home builder, I have hired a contractor to construct a home on a lot that I already own. Do I still qualify for the tax credit?
  Yes. For the purposes of the home buyer tax credit, a principal residence that is constructed by the home owner is treated by the tax code as having been “purchased” on the date the owner first occupies the house. In this situation, the date of first occupancy must be on or after April 9, 2008 and before July 1, 2009.In contrast, for newly-constructed homes bought from a home builder, eligibility for the tax credit is determined by the settlement date.
• 5. What is “modified adjusted gross income”?
  Modified adjusted gross income or MAGI is defined by the IRS. To find it, a taxpayer must first determine “adjusted gross income” or AGI. AGI is total income for a year minus certain deductions (known as “adjustments” or “above-the-line deductions”), but before itemized deductions from Schedule A or personal exemptions are subtracted. On Forms 1040 and 1040A, AGI is the last number on page 1 and first number on page 2 of the form. For Form 1040-EZ, AGI appears on line 4 (as of 2007). Note that AGI includes all forms of income including wages, salaries, interest income, dividends and capital gains.To determine modified adjusted gross income (MAGI), add to AGI certain amounts such as foreign income, foreign-housing deductions, student-loan deductions, IRA-contribution deductions and deductions for higher-education costs.
• 6. If my modified adjusted gross income (MAGI) is above the limit, do I qualify for any tax credit?
  Possibly. It depends on your income. Partial credits of less than $7,500 are available for some taxpayers whose MAGI exceeds the phaseout limits. The credit becomes totally unavailable for individual taxpayers with a modified adjusted gross income of more than $95,000 and for married taxpayers filing joint returns with an AGI of more than $170,000.
• 7. Can you give me an example of how the partial tax credit is determined?
  Just as an example, assume that a married couple has a modified adjusted gross income of $160,000. The applicable phaseout to qualify for the tax credit is $150,000, and the couple is $10,000 over this amount. Dividing $10,000 by $20,000 yields 0.5. When you subtract 0.5 from 1.0, the result is 0.5. To determine the amount of the partial first-time home buyer tax credit that is available to this couple, multiply $7,500 by 0.5. The result is $3,750.Here’s another example: assume that an individual home buyer has a modified adjusted gross income of $88,000. The buyer’s income exceeds $75,000 by $13,000. Dividing $13,000 by $20,000 yields 0.65. When you subtract 0.65 from 1.0, the result is 0.35. Multiplying $7,500 by 0.35 shows that the buyer is eligible for a partial tax credit of $2,625.

  Please remember that these examples are intended to provide a general idea of how the tax credit might be applied in different circumstances. You should always consult your tax advisor for information relating to your specific circumstances.

• 8. Does the credit amount differ based on tax filing status?
  No. The credit is in general equal to $7,500 for a qualified home purchase, whether the home buyer files taxes as a single or married taxpayer. However, if a household files their taxes as “married filing separately” (in effect, filing two returns), then the credit of $7,500 is claimed as a $3,750 credit on each of the two returns.
• 9. Are there any circumstances for which buyers whose incomes are at or below the $75,000 limit for singles or the $150,000 limit for married taxpayers might not be able to claim the full $7,500 tax credit?
  In general, the tax credit is equal to 10% of the qualified home purchase price, but the credit amount is capped or limited at $7,500. For most first-time home buyers, this means the credit will equal $7,500. For home buyers purchasing a home priced less than $75,000, the credit will equal 10% of the purchase price.
• 10. I heard that the tax credit is refundable. What does that mean?
  The fact that the credit is refundable means that the home buyer credit can be claimed even if the taxpayer has little or no federal income tax liability to offset. Typically this involves the government sending the taxpayer a check for a portion or even all of the amount of the refundable tax credit.

For example, if a qualified home buyer expected, notwithstanding the tax credit, federal income tax liability of $5,000 and had tax withholding of $4,000 for the year, then without the tax credit the taxpayer would owe the IRS $1,000 on April 15th. Suppose now that taxpayer qualified for the $7,500 home buyer tax credit. As a result, the taxpayer would receive a check for $6,500 ($7,500 minus the $1,000 owed).

• 11. What is the difference between a tax credit and a tax deduction?
  A tax credit is a dollar-for-dollar reduction in what the taxpayer owes. That means that a taxpayer who owes $7,500 in income taxes and who receives a $7,500 tax credit would owe nothing to the IRS.A tax deduction is subtracted from the amount of income that is taxed. Using the same example, assume the taxpayer is in the 15 percent tax bracket and owes $7,500 in income taxes. If the taxpayer receives a $7,500 deduction, the taxpayer’s tax liability would be reduced by $1,125 (15 percent of $7,500), or lowered from $7,500 to $6,375.
• 12. Can I claim the tax credit if I finance the purchase of my home under a mortgage revenue bond (MRB) program?
  No. The tax credit cannot be combined with the MRB home buyer program.
• 13. I live in the District of Columbia. Can I claim both the DC first-time home buyer credit and this new credit?
  No. You can claim only one.
• 14. I am not a U.S. citizen. Can I claim the tax credit?
  Maybe. Anyone who is not a nonresident alien (as defined by the IRS), who has not owned a principal residence in the previous three years and who meets the income limits test may claim the tax credit for a qualified home purchase. The IRS provides a definition of “nonresident alien” in IRS Publication 519.
• 15. Does the credit have to be paid back to the government? If so, what are the payback provisions?
  Yes, the tax credit must be repaid. Home buyers will be required to repay the credit to the government, without interest, over 15 years or when they sell the house, if there is sufficient capital gain from the sale. For example, a home buyer claiming a $7,500 credit would repay the credit at $500 per year. The home owner does not have to begin making repayments on the credit until two years after the credit is claimed. So if the tax credit is claimed on the 2008 tax return, a $500 payment is not due until the 2010 tax return is filed. If the home owner sold the home, then the remaining credit amount would be due from the profit on the home sale. If there was insufficient profit, then the remaining credit payback would be forgiven.
• 16. Why must the money be repaid?
  Congress’s intent was to provide as large a financial resource as possible for home buyers in the year that they purchase a home. In addition to helping first-time home buyers, this will maximize the stimulus for the housing market and the economy, will help stabilize home prices, and will increase home sales. The repayment requirement reduces the effect on the Federal Treasury and assumes that home buyers will benefit from stabilized and, eventually, increasing future housing prices.
• 17. Because the money must be repaid, isn’t the first-time home buyer program really a zero-interest loan rather than a traditional tax credit?
  Yes. Because the tax credit must be repaid, it operates like a zero-interest loan. Assuming an interest rate of 7%, that means the home owner saves up to $4,200 in interest payments over the 15-year repayment period. Compared to $7,500 financed through a 30-year mortgage with a 7% interest rate, the home buyer tax credit saves home buyers over $8,100 in interest payments. The program is called a tax credit because it operates through the tax code and is administered by the IRS. Also like a tax credit, it provides a reduction in tax liability in the year it is claimed.
• 18. If I’m qualified for the tax credit and buy a home in 2009, can I apply the tax credit against my 2008 tax return?
  Yes. The law allows taxpayers to choose (”elect”) to treat qualified home purchases in 2009 as if the purchase occurred on December 31, 2008. This means that the 2008 income limit (MAGI) applies and the election accelerates when the credit can be claimed (tax filing for 2008 returns instead of for 2009 returns). A benefit of this election is that a home buyer in 2009 will know their 2008 MAGI with certainty, thereby helping the buyer know whether the income limit will reduce their credit amount.
• 19. For a home purchase in 2009, can I choose whether to treat the purchase as occurring in 2008 or 2009, depending on in which year my credit amount is the largest?
  Yes. If the applicable income phaseout would reduce your home buyer tax credit amount in 2009 and a larger credit would be available using the 2008 MAGI amounts, then you can choose the year that yields the largest credit amount.

I hope this info may help as you consider your home purchase. I understand we all are feeling scared to death about the economy and how it will all shake out. When all is said and done, the average price decline in home values in the Portland Metro area has been about 7-8% or so over the course of the last year, compared with 15-25-30% perhaps in some of the areas hit hardest by the housing crisis, such as southern Cafifornia, Las Vegas, Florida and so on. Compare that to the 35-45% or so losses folks have experienced throughout the country in their 401ks, IRAs and other equity assests. Keep in mind, too, that Portland has been consistently ranked as one of the least hard-hit cities in the country with regard to housing decline (even if it sometimes, particularly for a Realtor like me, feels otherwise), and Portland was just named by Fortune magazine (I believe) as one of the top-ten cities most likely to experience a rise in real estate prices when the market begins to swing up again. All the demographics regarding future growth have supported this for years.

As frightening a time as it is for us all, scholars of the Great Depression will tell you that more millionaires were made during that time by folks who invested in real estate than any other means; those few who had the foresight and ability to buy homes saw their investments repaid many times over. Particularly for first-time buyers, consider that you have to live someplace, and unlike stocks or other paper investment products, a home is truly “brick (well, or wood) and mortar”–you have a place to call your own that you can actually see, and feel, and improve as you see fit, plus reap all the tax advantages of owning rather than renting, and knowing that real estate will always increase in value in the long-term.

Always feel free to call or email me if there’s anything I can do to assist you or anyone you know. In the meantime, be healthy and happy in your (future) home!

Zach Newman is an experienced, reliable and trusted Realtor in the Portland area. He is an agent for Re/Max Equity Group and he is a longtime member of PABA - Portland’s GLBT Chamber of Commerce. Call Zach at 503.287.8989 or visit his website at: www.equitygroup.com/zach

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