March 7, 2009 in Taxes

First home, new tax break

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.

Improved 2009 credit

That loan vs. credit issue prompted Congress to revisit the homebuyer credit when it considered President Barack Obama’s stimulus bill. When the American Recovery and Reinvestment Act of 2009 became law on Feb. 17, it enhanced the first-time homebuyer credit in several ways.

In its current incarnation, the tax credit amount is upped $500, to a maximum of $8,000 or 10 percent of your home’s purchase price.

First-time homebuyer credit maximum amounts
Filing Status First home bought between

April 9, 2008 and Dec. 31, 2008

First home bought between

Jan. 1, 2009 and Nov. 30, 2009

Single $7,500 $8,000
Married filing jointly $7,500 $8,000
Married filing separately $3,750 $4,000

The new stimulus law also extends the date for qualifying home purchases to Nov. 30, 2009.

But the most significant change is that the credit is now a real credit. In most instances, the $8,000 does not have to be repaid.

Overlapping credit confusion

Many homebuyers no doubt welcomed the new change. However, its overlap with the previous version produced some questions, notably just when do you claim it and how much can you claim?

The original, smaller credit included first homes bought through June 30, 2009. The new, more generous version applies to first residences purchased through November of this year. So what amount then applies to homes bought between Jan. 1 and June 30, the time period covered by both bills?

Under a strict reading on the law, says Luscombe, if you counted a 2009 home purchase as having taken place last year, you didn’t have to repay the credit, but it seemed the maximum allowable credit would be the original $7,500 amount, rather than the new $8,000 tax break.

In looking at the law immediately after passage, Bob D. Scharin, senior tax analyst from the Tax & Accounting business of Thomson Reuters, also was struck by the potential for taxpayer, and tax preparer, confusion. If buying a home is what lawmakers are encouraging people to do, says Scharin, then the law needs to be clear as to exactly what the homebuyer is entitled to claim.

As tax experts pondered the two credits’ implications, the IRS was working on sorting out legislative language. In late February, the agency came up with some answers.

In many cases, it’s good news for homebuyers who will be able to get their hands on the $8,000 credit sooner than they expected.

Timing your tax claim

If you buy your first home by Nov. 30, you don’t have to wait until next year when you file your 2009 tax return to claim the credit. Rather, you can claim it on your 2008 tax return.

Claiming the credit on a 2008 return is a no-brainer for folks who just bought or plan to close on their first home, are short on cash and have not yet filed their 2008 taxes.

“For first-time homebuyers this year, this special feature can put money in their pockets right now rather than waiting another year to claim the tax credit,” says IRS Commissioner Doug Shulman in announcing the filing year choice.

If you don’t need the money immediately, however, it might be better to wait and take the credit on your 2009 return.

The choice is yours. You can claim the credit now or claim it later, based on which filing year provides you with the best tax result. So run the numbers first before making a filing year choice.

And if your first-home purchase occurs after the 2008 filing deadline, which could be as late as Oct. 15 if you get an extension, you can file an amended return to make the claim.

2008 purchasers locked in

Homebuyers who closed on their first homes in 2008, however, aren’t as lucky when it comes to their tax break.

Buyers of first homes between April 9, 2008, and Dec. 31, 2008, can claim the credit, but only under the original terms.

This means they are allowed a maximum tax break of only $7,500 or 10 percent of their home’s purchase price.

And any credit amount must be paid back over 15 years, starting with the 2010 return.

Credit e-filing on hold

Filers who use tax preparation software can get an idea of how much claiming the credit this filing season will help. But such new homeowners won’t be able to electronically file their first-home credit claims for a while.

Form 5405, which taxpayers must use to take the first-time home purchase tax break, has been revised to reflect the new purchase dates and $8,000 credit amount. However, it’s not yet been formatted and approved by the IRS for e-filing.

“All of the tax software industry is waiting for the IRS to release a time frame around which e-filing will be accepted,” says Denise Sposato, director of communications and communities for H&R Block. “You can download the form and go into one of our offices and manually file it. You would have to mail it in, and there is some delay in that.”

Intuit’s TurboTax software packages are in the same boat. “We are actually pushing updates out to TurboTax, but the forms are still only printable,” says Julie Miller, director of corporate communications for Intuit. “It’s not any different from prior years when we had electronic forms that were late because of congressional changes.”

Definition of ‘first-time’

OK, you bought a home within the qualifying dates. You’ve decided you want to claim the tax break on your 2008 return. Now you must make sure you qualify.

Although the tax break is called the First-time Homebuyer Credit, the tax definition of first-time buyer isn’t as straightforward as you might think.

According to the IRS, a first-time buyer is a person who has not owned a primary residence within the past three years. If you and another person buy the house together, each of you must be eligible.

The same rule applies to married couples, meaning each spouse must meet the three-year no-homeownership rule separately. “You cannot get around it by a husband owning a house before marriage and then putting your new home in just the wife’s name,” says Scharin. “The ownership rule still applies so they’re ineligible.”

However, owning a vacation home a few years before your new residential purchase is not a problem. The law only stipulates that owning a primary residence in that period disqualifies you for the credit.

Income limitations

Another qualification hurdle that must be overcome is the limit on earnings.

The credit, both the original version and the one expanded for 2009 home purchases, begins to phase out for individual taxpayers whose modified adjusted gross income is more than $75,000 or $150,000 for couples filing a joint return.

Once taxpayer earnings top $95,000 for single filers or $170,000 for couples filing jointly, there is no credit.

Stay or pay

Finally, regardless of whether you claim the original $7,500 credit or the $8,000 amount now available, you could be forced to pay back the money if you don’t live in your first home long enough.

If you claim the $7,500 credit for a property purchased in 2008 and stop using the property as a main home before your 15-year payback period is up, then you must send in the outstanding balance in full when you file your tax return for the year that such an occupancy change occurred.

And although the $8,000 credit for first homes purchased in 2009 does not technically have to be paid back, to get this benefit you must live in the home as your main residence for at least three years. If you don’t, you must repay the credit by including it as additional tax on your return for the year in which you stopped using the property as your main residence.

There are some exceptions to the payback rules for both versions of the First-time Homebuyer Credit when it comes to specific home-sale situations. Details and examples are included in the Form 5405 instructions.