President Trump’s tax reform has affected many homeowners and real estate markets nationwide. It’s a recent development with finalization coming from 2017, 2018 is already seeing the changes. But, the real question is how will it affect our local real estate?
Throughout the Palo Alto region, we’ve seen home values steadily increasing for several years and that’s the very type of market this tax reform targets. High home values and affluent markets are the segments that are affected most. Still, you would expect that realtors would normally be excited about a 6.4% increase in home value forecast for the next year. So why aren’t they?
Tax Reform on Real Estate – The Biggest Hit
One of the many reason people look forward to becoming a homeowner is the tax break. Even though this tax break is usually pennies on the dollar it’s one that about 45% of homeowners see every year. It’s a long-standing incentive.
But, with Palo Alto’s median home value standing at just under 3.1 million dollars many homeowners won’t see the benefit they are used to. New homeowners are even less likely to see tax benefits from becoming a homeowner. Mortgage interest deductions are now capped at $750,000. Many Palo Alto residents will exceed this, which is making people rethink homeownership. Essentially, only about 1 in 7 homeowners nationwide are eligible.
In short, growing and affluent markets such as Palo Alto, CA were targeted. Homeowners are paying the price, but they’re not the only ones. The market is wholly affected as people see there are possibly more benefits in renting.
Perfect Storm of Changes
The tax reforms affect on local real estate in Palo Alto is because of a perfect blend of changes. Not only are there the changes to the mortgage interest tax breaks, but also the state tax restriction and an increase in the standard deduction.
Essentially these changes work together because the mortgage interest deduction is commonly used by homeowners to lower the taxable income they’re reporting on their taxes. So together it’s making it less advantageous for a number of homeowners to itemize their deductions, which is the only way to receive the mortgage interest tax break.
Californian residents as a high-tax state are further affected because State and Local Tax deductions are also capped, but now at $10,000. This is the deduction for all property tax and is another segment where homeowners are going to lose out.
Taking all these aspects into consideration, about 44% of homeowners would benefit from an itemized deduction previously. Now, Zillow experts estimate that this only 14.4%.
What this Means in Palo Alto
Because of the tax incentive changes, this will likely have a negative effect on home prices and overall home value in the Palo Alto market. This means existing homeowners probably won’t be selling. When people don’t sell the market is at risk of going stale since there aren’t new listings hitting the local area. But this is a temporary effect.
It isn’t likely that we’ll see a housing recession although many sources are claiming that is the case. Instead, a slow down is inevitable and in a market like Palo Alto that has climbed successfully for so long, it was foreseeable even without the tax reform.
Eventually, as the market slows down, and the negative impact on housing prices takes effect it could have an upswing after. Very few prospective homeowners decide whether to buy or not based on possible tax breaks.
But, most buyers will make decisions on listing price and purchase price. With lower prices, the Palo Alto market won’t stay stagnant for long. New homeowners are great stimulants to a market. Although these stimulants are far down the road, there is peace of mind knowing that the initial shock will wear off. Palo Alto is capable of rebounding from the negative effects of this tax reform.