Tax Reform: What You Need to Know and Potential Impacts on the Mortgage Industry MAY 17, 2018 Presented by: Kalen Richey
Disclaimer This presentation and related materials are intended to provide timely information about complex tax laws. The information provided may change as a result of Internal Revenue Service interpretations, the promulgation of new tax regulations, technical corrections to, or judicial interpretations and rulings, of existing tax laws. This information is not intended to provide legal, accounting or other professional services and is provided solely for educational purposes. The information provided should not be used a substitute for professional advice. If professional advice or other expert assistance is required, the services of a competent tax professional should be sought. Statutory and Regulatory references in the materials are to the Internal Revenue Code of 1986, as amended, or Treasury Regulations thereunder, unless otherwise noted. The materials provided and presentation may not be reproduced in whole or part, without permission.
Agenda • Overview of US Income Tax system • Major Changes made by the TCJA • Individual and Corporate Rates • Qualified Business Income Deduction for Flow Through business owners • Changes to Standard and Itemized Deductions (including Mortgage Interest) • Enhanced expensing and depreciation provisions • Limitation on deduction for business interest • Changes to deductibility of meals and entertainment expenses • Section 1031 like kind exchange changes • Potential Lending and Housing Impact
Overview of US Income Tax system (pre-reform) Individuals Businesses Gross Income Gross Income Adjustments Deductions Adjusted Gross Income Taxable Income Standard/Itemized Deductions Exemptions From a Flow-through? (Pship, LLC, S-Corp) Taxable Income Applicable tax rates per brackets Yes No 35% Federal Income Tax Federal Income Tax
The Major Changes Missing from the graphic: Misc. Itemized deductions -Prior Law: Numerous deductions available provided they exceeded 2% of AGI -New Law: No Misc. Itemized deductions available Expensing and Depreciation Enhancements - Section 179: Now $1M in costs and more types of property qualify -Bonus Depr. – 100% deductible if acq. 9.27.2017 - 12.31.2022. Decreases 20% per year thereafter Business Interest Limitation -Interest Expense deduction limited to 30% of adjusted taxable income (EBITDA) Like-kind exchanges (section 1031) -Now limited to real property only
US Income Tax system (post-reform) Individuals Businesses Gross Income Gross Income Depr. increased New Deduction Adjustments Deductions Interest Exp. limited of 20% of QBI Adjusted Gross Income Taxable Income Standard/Itemized Deductions Exemptions From a Flow-through? (Pship, LLC, S-Corp) Taxable Income Applicable tax rates per brackets Yes No 21% Federal Income Tax Federal Income Tax Increase in Credits to offset tax
Mortgage Interest Deduction • Terms Defined Under IRC 163(h)(3): • Acquisition Indebtedness – any indebtedness which is incurred in acquiring, constructing, or substantially improving any qualified residence of the taxpayer, and is secured by such residence. (potentially includes some or all of 1 st mortgage, home equity loan, or line of credit). • Home Equity Indebtedness – any indebtedness (other than acquisition indebtedness) secured by a qualified residence…
Mortgage Interest Deduction • Rule Under pre-Act Law: • A taxpayer could deduct as an itemized deduction qualified residence interest, which includes interest paid on a mortgage secured by a principal residence or a second residence. • The interest deduction was limited to the amount attributable to no more than $1,000,000 of acquisition indebtedness (married filing jointly, or $500,000 for married filing separately), PLUS the interest on no more than $100,000 of home equity indebtedness (married filing jointly, or $50,000 for married filing separately).
Mortgage Interest Deduction • Rule Under New Tax Reform Act: • For tax years beginning after December 15, 2017 and before January 1, 2026, a taxpayer can deduct as an itemized deduction qualified residence interest, which includes interest paid on a mortgage secured by a principal residence or a second residence. • The interest deduction is now limited to the amount attributable to no more than $750,000 of acquisition indebtedness (married filing jointly, or $375,000 for married filing separately). • NOTE: NO mortgage interest deduction will be allowed for interest on home equity indebtedness .
Mortgage Interest Deduction • Rule Under New Tax Reform Act (cont.): • Grandfather Exception: Debt incurred before December 15, 2017, is not affected by the reduction in mortgage loan amount and therefore the limits are still $1 million (MFJ) / $500k (MFS). • Grandfather Exception: Debt incurred before December 15, 2017, but refinanced later, continues to be covered by the pre-Act law to the extent the amount of the refinanced debt does not exceed the amount of original acquisition debt being refinanced (i.e., remaining principal amount of amortized balance of acquisition indebtedness).
Mortgage Interest Deduction • IRS Examples Applying New Tax Reform Act (IR 2018-32): • Illustration 1: In January 2018, John takes out a $500,000 mortgage to purchase a main home with a fair market value of $800,000. In February 2018, he takes out a $250,000 home equity loan to put an addition on the main home. Both loans are secured by the main home and the total does not exceed the cost of the home. Because the total amount of both loans does not exceed $750,000, all the interest paid on the loans is deductible. However, if John used the home equity loan proceeds for personal expenses, such as paying off student loans, credit card debt, to purchase an RV, or go on a family vacation, then the interest on the home equity loan would not be deductible.
Mortgage Interest Deduction • IRS Examples Applying New Tax Reform Act (IR 2018-32): • Illustration 2: In January 2018, Mary takes out a $500,000 mortgage to purchase a main home. The loan is secured by the main home. In February 2018, she takes out a $250,000 loan to purchase a vacation home. The loan is secured by the vacation home. Because the total amount of both mortgages does not exceed $750,000, all the interest paid on both mortgages is deductible. However, if Mary took out a $250,000 home equity loan on the main home to purchase the vacation home, then the interest on the home equity loan would not be deductible.
Mortgage Interest Deduction • IRS Examples Applying New Tax Reform Act (IR 2018-32): • Illustration 3: In January 2018, Bob takes out a $500,000 mortgage to purchase a main home. The loan is secured by the main home. In February 2018, he takes out a $500,000 loan to purchase a vacation home. The loan is secured by the vacation home. Because the total amount of both mortgages exceeds $750,000, not all the interest paid on both mortgages is deductible. Only a percentage of the total interest paid is deductible.
Mortgage Interest Deduction • 2 nd Mortgage, Second Lien Position, HELOC Inquiries: Q: If a borrower had a first mortgage AND a HELOC prior to 12/15/17, would all the interest still be deductible under the new tax Reform Act, just as it had been under the old law? A: If the HELOC was in place prior to the 12/15/17 date AND the HELOC was used to “acquire, construct, or substantially improve a qualified residence” and was secured by that same residence AND in conjunction with the first mortgage did not exceed the $1,000,000 limit, then YES , this interest would all still be deductible going forward under the “grandfather rules”, since the HELOC would meet the definition of home acquisition indebtedness. However, if the HELOC, even if in place before the 12/15/17 date, was used to purchase a boat, RV, truck, pay off student loans, etc., then starting with the 2018 tax year the interest on the HELOC will NOT be deductible going forward.
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