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Billions At Stake If Congress Tinkers With Tax Exclusion On Home Sales

It’s often the biggest pot of gold available to any homeowner, yet its fate remains unclear under the main plans for a tax code overhaul proposed so far on Capitol Hill.

The capital gains “exclusion” allows eligible owners to pocket up to $250,000 (taxpayers filing singly) or up to $500,000 (joint filers) from the net gains on their home sales, tax-free.

Along with mortgage interest and state and local tax deductions, it ranks among the major federal inducements encouraging Americans to own — not rent — a home.

Between 2016 and 2020, unless changed by forthcoming legislation, the $250,000/$500,000 exclusion is expected to result in $166.3 billion in uncollected tax revenue for the federal government, according to the congressional Joint Committee on Taxation. That’s money that stays in owners’ pockets rather than getting sent to the treasury.

Both the House Republican “blueprint” tax plan and the Trump administration’s summary of its forthcoming tax proposals would effectively limit the two other hefty benefits for homeowners. Although the mortgage interest deduction technically is retained as a benefit in both plans, its likely use and attractiveness would be limited by the doubling of the standard deduction.

With that deduction pushed up to $24,000 for joint filers ($12,000 for single filers), the vast majority of owners who now itemize are expected to opt for the standard deduction. That would water down the long-standing special tax status of ownership over renting, critics say, and probably lead to a decline in home values.

Under both the Trump and House Republican plans, deductions for state and local taxes would be scrapped. Housing proponents are up in arms about that potential change because the deduction benefits millions of owners who pay property taxes, especially those who live in the high-tax states along the East and West coasts.

But what about the tax-free exclusion? Curiously, both plans are silent on the subject. One tax expert on Capitol Hill told me that the failure of the House blueprint plan to even mention the exclusion could mean that it’s destined to be eliminated. Another said it was much more likely that the House tax writers ultimately will reach back three years to an earlier “reform” plan that sought to tighten the rules governing who’s qualified to take the tax-free exclusion and how often.

That plan, proposed by Dave Camp (R-Mich.), who was then the House Ways and Means Committee chairman, would have:

●Lengthened the minimum period that taxpayers need to own and use a house as their principal residence to qualify for the tax-free exclusion from two years to five years. Under current law, you can be eligible for the exclusion if you own and use the property as your main home an aggregate two years of the five years preceding the sale. Under Camp’s plan, that would have been extended to five of the preceding eight years.

●Limited the frequency with which owners can claim tax-free cash from a home sale from once every two years to once every five years.

●Limited the exclusion for higher-income owners — those making $250,000 (single filers) and $500,000 (joint filers).

The Camp plan on the tax-free exclusion would have increased federal revenue by nearly $16 billion over a 10-year period, according to an estimate by the Joint Tax Committee — enough to make it a seductive option for tax writers looking to save the government some serious money.

What might be the impact on homeowners of an elimination or severe cutback on the exclusion? J.P. Delmore, tax lobbyist and assistant vice president at the National Association of Home Builders, says it could be disastrous. Not only would it “lay a direct and unexpected tax bill on homeowners who expected to use housing equity as a source of retirement wealth,” but it also would lower demand for ownership and depress home values — “thereby inflicting a windfall loss on existing homeowners.”

What’s the outlook here? Most fundamentally, it depends on whether a tax overhaul plan can move through a fractious Congress this year or even next — which is no sure thing. It also turns on whether Republicans in Congress and the administration want to risk the political firestorm they would surely face if they limit or take away the benefit many homeowners — especially boomers in their 50s and 60s — have hard-wired into their financial future.