Uncertainty over so-called "tax extenders" harms investment in local economies.
A recurring tax policymaking drama of the last decade has been the almost annual process of addressing a set of expiring rules known as “tax extenders.” While these 60 or so provisions have been repeatedly extended, they are typically only given an additional year or two in each round. And occasionally, this extension was only delivered after the rules expired, thus requiring some retroactive fixing.
We are in such a period now, as many tax extenders expired at the end of 2013, setting up a possible partially retroactive extension for 2014. This kind of extension is unfortunate because it dilutes the positive impact these policies can have as incentives for desired policy outcomes like development, research or energy efficiency.
As the Senate Finance Committee prepares to mark up a bill that helpfully would extend many of these provisions, House Ways and Means Committee Chairman Dave Camp, R-Mich., has indicated he believes it is time to decide, as a step towards tax reform, which of the provisions should be made permanent. Under his approach, the committee is expected to convene a series of hearings to look at which tax extenders should be extended permanently, but legislation is not expected anytime soon.
Each of these two approaches is a welcome change to the current situation. We need to end the extenders process and provide certainty for 2014, but we should also change the legislative dynamic and look at creating permanent policies. And as congressional focus moves to tax extenders in the spring, it is important for supporters of individual extender items to make the case for these rules – perhaps for the final time.
Among high profile extenders like the itemized deduction for state and local sales taxes and the research and experimentation tax credit are a number of housing and real estate items, the future of which will have significant impact on local economies.
For example, tax extenders that involve improving the energy efficiency of structures include the Internal Revenue Code section 25C credit for improving existing homes. The credit was very successful in incentivizing improvements that will save utility costs for current and future homeowners. In 2010, IRS data indicated that 7 million homes were retrofitted by more than $26 billion in qualified improvements. Unfortunately, after 2010 the credit was subject to a number of changes, including a lifetime cap of $500,which has reduced the scale of impact of the policy.
Other energy incentives include the section 45L new energy efficient home tax credit, which has facilitated the construction of tens of thousands of owner-occupied and rental single-family homes that are 50 percent more efficient with respect to heating and cooling costs than the International Energy Conservation Code. On the commercial and multifamily side, the Section 179D provides more efficient cost recovery rules for energy efficient improvements, saving energy and money.
A number of housing specific rules that expired may already be having an impact on the real estate market. The fixed 9 percent credit rate for the Low-Income Housing Tax Credit ensures that sufficient equity is available for investments in rental housing. Created as part of the 1986 Tax Reform Act, the affordable housing credit is a public-private partnership that has produced the most successful and efficient means of building and maintaining affordable housing. The now expired fixed 9 percent credit rate determines how much equity is available for new properties, thus correcting a challenge created by today’s low government interest rates.
The deduction for mortgage insurance, which is commonly used by first-time homebuyers, has also expired. Given the low market share of younger, first-time buyers (28 percent of all buyers in February per National Association of Realtors data, when historically the share is around 40 percent), the future of this rule is likely to shape the strength of home buying demand among the starter home segment of the market.
The rule that prevents a tax liability arising from forgiven or cancelled mortgage debt associated with a principal residence has also expired. This rule is an important consideration for short sales and other distressed transactions as a result of millions of homeowners owing more debt than the current market value of their home. When the rule expired at the end of 2013, it likely contributed to the fall off in existing home sales, which have declined as distracted sales fell at the start of the year.
Other real estate rules at stake include brownfield expensing, which helps with the cleanup and reuse of existing sites, and the 15-year leasehold improvement, which matches the depreciation period of improvements in commercial real estate to their economic lives, as opposed to the too long 39-year period used for structures. Real estate is an industry dominated by small business, so the section 179 expensing, which has lower thresholds under the tax extenders sunset, is also of value in terms of simplicity and cost recovery for smaller enterprises.
As this list makes clear, the uncertainty created by the current status of many of these real estate tax rules will harm investment in local economies. A better approach from a tax policymaking perspective would be to permanently extend all but the most narrowly targeted tax extenders and then readdress the future of all tax rules as part of the ongoing tax reform discussion.
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