Congress has come up with two different ideas on how to reform the tax laws. The House of Representatives got the ball rolling by releasing its proposal first, but the Senate didn't wait long to come up with its own package. The two proposals have a lot in common, but one area where they differ is in the treatment of real estate taxes. The House would allow homeowners to continue to deduct property taxes up to $10,000 per year, while the Senate version would eliminate state and local real estate tax deductions entirely. Below, you'll learn why this could cost the typical American more than $5,000 in itemized deductions and who stands to lose the most from any change in the current law.
What the IRS lets you do now
Right now, the tax laws allow those who itemize their tax deductions to deduct the money they pay to state and local governments for property tax. This is true whether the collecting jurisdiction is the state, county, or municipal body.
The deduction is based on the amount actually paid during the tax year. So if your tax bill includes amounts that are due in two different calendar years, you typically have a choice: Just pay the required amount this year and deduct that portion of the tax, or pay the entire tax early and claim the whole amount as an itemized deduction in the year you paid it.
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What's at stake with the real estate tax deduction
The reason why the proposed change is a big deal for taxpayers is that the real estate tax deduction is one of the most common itemized deductions that homeowners take. More than 37.6 million taxpayers claimed this deduction on their tax returns in the most recent year for which IRS data is available, and the total amount that they were able to deduct added up to more than $188.6 billion. That works out to an average of $5,014 for the typical taxpayer claiming the deduction.
Exactly what that saves in taxes depends on the tax bracket of the taxpayer claiming the deduction. However, the savings can range from around $500 to as much as $2,000, making it a costly loss for the typical taxpayer.
A similar provision gives a benefit to those who pay taxes on personal property. These taxes are much less common, and they tend to be smaller. Still, for nearly 19 million taxpayers, being able to deduct these items added an average of $494 in deductions to their tax returns, producing tax savings of another $50 to $200 or so.
Why there's debate over the real estate tax deduction
So many people claim the real estate tax deduction that it's unusual for lawmakers to consider it for the chopping block. Congress is required under the current rules governing the budget process to find ways to pay for some of the tax cuts lawmakers want to make elsewhere. The House had originally thought to end all state and local tax deductions, including not only real estate taxes but also personal property tax, income tax, and sales tax. That would have raised an estimated $1.3 trillion in tax revenue over the next 10 years, against which it could offset other tax breaks like the increased standard deduction and lower taxes for corporations.
At the same time, many of the places where real estate taxes are highest happen to be in states in which a majority of residents voted in the 2016 presidential election against President Donald Trump. California, Connecticut, New Jersey, and New York are key states where real estate taxes tend to be particularly high and voters have traditionally leaned away from Republicans. Republican representatives in the House from those states are under considerable pressure to vote against the proposal on the grounds that it especially hurts their constituents. That's one reason why the House chose to limit the impact of the measure, but the Senate proposal left it in fully.
Keep your eyes on Washington
The real estate industry is an important driver of the American economy, and policy advocates take very seriously any threat to the housing market. Being able to deduct housing expenses like real estate taxes is a key financial advantage of home ownership, and so you can expect industry lobbyists and others to fight as hard as they can to preserve the real estate tax deduction. This could be an area in which it proves hard to find compromise even within the Republican Party.
