Why Nobody Understands the Income Tax: The Case of the Homebuyer Credit
Income tax filing season is never fun—either for taxpayers or for the IRS. It isn’t just having to pay. It’s also that feeling that you are playing a game that everyone but you understands.
The homebuyer tax credit is a classic case in point. The credit changed so often over the past three years, and the rules are so complicated, that it is hard to figure out how much you benefit or even how to report the subsidy on your 1040.
After the American housing market collapsed, Congress decided in 2008 to encourage people to buy homes by offering a tax credit of up to $7,500 to first-time buyers in the last nine months of 2008 and the first half of 2009. (Buyers in the second period later got a better deal from the 2009 stimulus act, in some cases retroactively.) As many as a million taxpayers took advantage of that offer, even though they would have to repay the credit later. When the housing market failed to recover, Congress upped the ante. People buying their first homes during the first 11 months of 2009 could get as much as $8,000, this time as an outright gift—they wouldn’t have to repay it. When that, too, failed to jumpstart the economy, Congress extended the offer through April 2010. This time, even people who had owned a home for at least five years could take the credit for buying a new house but Congress sliced the maximum benefit to $6,500 for those repeat buyers. You had to close any deals by June 30, unless you couldn’t, in which case you had until September 30. And if you were in the military, the Foreign Service, or the intelligence community and serving overseas, all the deadlines were pushed out a year.
Still with me?
The 2008 credit was really a 17-year interest-free loan since folks had to repay Uncle Sam by adding one-fifteenth of the credit’s value to their income tax bill each year for 15 years, beginning with their 2010 tax returns. Problem was neither taxpayers nor the IRS were sure who owed what. Because claiming the 2008 credit required little substantiation, it wasn’t always clear just when a house was purchased and which version of the credit applied. If you closed on your new home on December 31, 2008, you could only get the repayable credit and had to add as much as $500 in extra tax for 2010. If you closed the following day, you not only got $500 more, you also didn’t have to pay it back. But you had to be a “first-time homebuyer,” which didn’t mean you had never owned a home, only that you hadn’t owned one in the past three years.
When the 2010 tax filing season began, the IRS was still sorting out credits claimed in previous years, rejecting ineligible purchases and classifying those that qualified. Refunds for taxpayers repaying their 2008 credits were delayed as tax agents examined them by hand. Because the IRS couldn’t always link those credits to joint tax returns, couples were told to pay their $500 on separate forms, each paying back $250. Taxpayers repaying their credits were angry not only about the delay—the IRS says some won’t get their refunds until next month—but also about the perceived inequity of later homebuyers not having to repay their credits at all (unless they don’t keep the home for three years, yet another complication). And adding insult to injury, the IRS requires every taxpayer claiming or repaying any version of the credit to file a paper return rather than filing electronically.
The credit was a terrible idea for many reasons, not least because it added massive complexity to a process that already frustrated most people. Is it any wonder why people are so unhappy with their government?
This is an example of Congress throwing money at a problem, without thinking through how it will be implemented or working with the IRS to make things consistant. We see this in most knee jerk reactions to economic problems. Another example is cash for clunkers — why did we subsidize luxury cars, particularly foreign made? Or even any cars.
This program did have consequences – but they were the wrong ones from a societal standpoint. This credit helped move people to buy foreclosed properties at bargain basement prices – however it did not produce near enough demand to clear inventories – much inventory remains. It also did nothing for underwater borrowers.
The program that should be done is to simply have the government take the loss for properties it owns the paper for where the loan value is more than the property value – and then adjust the principal balances (with a clawback provision if values rise again or the property is sold above the new loan value).
This won’t cost the taxpayer any more than foreclosure and could be used to rescue quite a few people from imminent foreclosure, stopping the downward trend in housing prices which is sapping the strength from the recovery.
I would even say we are in a depression as housing prices continue to fall. Until they start going up above loan values, things will only get worse.
[...] –Income Taxes: Roberton Williams uses the homebuyer tax credit to illustrate the confusing nature of income taxes. “The 2008 credit was really a 17-year interest-free loan since folks had to repay Uncle Sam by adding one-fifteenth of the credit’s value to their income tax bill each year for 15 years, beginning with their 2010 tax returns. Problem was neither taxpayers nor the IRS were sure who owed what. Because claiming the 2008 credit required little substantiation, it wasn’t always clear just when a house was purchased and which version of the credit applied. If you closed on your new home on December 31, 2008, you could only get the repayable credit and had to add as much as $500 in extra tax for 2010. If you closed the following day, you not only got $500 more, you also didn’t have to pay it back. But you had to be a “first-time homebuyer,” which didn’t mean you had never owned a home, only that you hadn’t owned one in the past three years.” [...]
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Not only is it too complicated, it was a bad idea to begin with . The federal government needs to stop subsidizing the housing market and trying to manipulate prices. Elsewhere the TPC writes, wisely, that we should end the mortgage interest deduction.
The housing subsidy is a bad idea for many of the same reasons that the mortgage interest deduction and well-intended by disastrous policy of encouraging mortgage lending to those who cannot afford it. These types of subsidies helped drive up the housing market and create the bubble (no, it was not solely to blame, but it did contribute).
With the subsidy, the government is at it again. The sole purpose of the subsidy is to try to prop up housing prices. Many of those who took advantage of this credit have already been hurt. The author writes people were encouraged to purchase housing prices in 2008 “after the housing market collapsed”. The problem is that while housing prices were down in 2008, the “collapse” was not yet complete. Many of those purchasers are now underwater.