Bankrate's 2009 Tax Guide
Tips and tools
First home, new tax break

TAX TIP No. 42

Buying your first home is enough of a challenge in good times. In today's economy, it's almost impossible for some people. So in 2008, federal lawmakers enacted tax legislation they hoped would make the process a bit more affordable. Then in February, the home buying tax break was enhanced.

In this tax tip:
  • Loan, not a true credit
  • Improved 2009 credit
  • Overlapping credit confusion
  • Timing your tax claim
  • 2008 purchasers locked in
  • Credit e-filing on hold
  • Definition of 'first-time'
  • Income limitations
  • Stay or pay
Unfortunately, the back-to-back changes in the first-time home buyer credit also created a lot of confusion.

Loan, not a true credit

The initial tax break for first-time homebuyers was part of the Housing and Tax Assistance Act of 2008, signed into law July 30, 2008. The provision, created as bad news arrived daily on the dismal state of the housing industry, was designed to help individuals come up with enough money to purchase their first residence. The new First-Time Homebuyer Credit would provide certain new homeowners with tax savings of up to $7,500 or 10 percent of their home's purchase price, whichever is less.

In addition to meeting eligibility requirements (more on these later), the homebuyers must time their property purchase. In order to claim the credit on 2008 returns, buyers must purchase between April 9, 2008, and June 30, 2009.

Yes, you read the dates correctly. If a taxpayer met all the credit guidelines, he or she could claim a home bought in 2009 on his or her 2008 Form 1040. And yes, you must file the long tax return form to claim this credit.

But the $7,500 in potential tax savings is not quite as generous as it first appeared. Despite the name, this 2008 tax break is not really a true credit.

Typically, credits allow you to reduce your tax bill dollar for dollar. If you owe the IRS $1,000 and qualify for a $500 credit, your tax bill is halved. The best credits are refundable, meaning that you get the tax break's full value even if you owe no tax. If you owe the IRS $250 and the $500 credit you claim is refundable, you get to wipe out your tax bill and then get the $250 excess credit back as a refund check from Uncle Sam.

But the original credit for first-time homebuyers, while refundable, must be paid back in equal installments over 15 years of subsequent tax filings. That  means homeowners who qualify for the full credit would face a $500-a-year payback, starting with their 2010 return.


So in essence, the 2008-version credit is simply an interest-free loan. "You could use it to reduce your taxes now, but you have to repay it on your income tax over 15 years, beginning two years after the purchase," says Mark Luscombe, principal analyst for the tax and account group at CCH in Riverwoods, Ill.

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