2- Agenda Summary - Taxation Committee
Agenda Summary – Taxation CommitteeHendricks/Kamilos/Baker Rooms
Sheraton Grand Hotel
Thursday, June 7, 2007
8:30 a.m. – 11:00 a.m.Presiding:
Robert Kevane, Chair
Ann Throckmorton, Vice Chair
Skip Zeleny, Vice Chair
Susan Tilling, Executive Committee Liaison
Raymond Karpe, NAR Committee Representative
CAR Staff:
Christopher Carlisle, Legislative Advocate
Jeff Keller, Public Policy AnalystI. Opening CommentsII. State Taxation IssuesA. Discussion/Reporting Items:1. Property Tax Basisa. Property Tax Basis Portability Task Force – Whether property tax basis portability can be expanded depends on how much it will cost government in lost property tax revenues – if the losses are significant, any proposed expansionof portability will be vehemently opposed. Figuring out how much expansion will cost requires several steps. First, it requires knowing the extent to which Propositions 60 and 90 are now used. Staff to the task force is working on getting that information from the Board of Equalization (BOE) and from the county assessors whose counties allow Proposition 90 transfers. Second, it requires determining the extent to which expansion will actually be used homeowners. The task force is working on developing a statistically valid survey to gather that information. Finally, it requires determining how much the cost of expansion can be mitigated whichwill necessitate conducting some fairly complex computer modeling. Once the task force has ascertained the costs of conducting a survey and of performing the necessary computer modeling, it will make recommendations as to how to proceed.b. SB 984 (Ashburn) Property Tax Basis Adjustments - Existing law allows a person who is over 55 years of age or severely disabled to transfer the base year value of their property to a replacement dwelling of equal or lesser value if that property is located within the same county as the original property, and is purchased or newly constructed within 2 years of the sale of the original property. A replacement dwelling purchased under this provision may not exceed 105% or110% of the full cash value of the original property during the first and second year, respectively, after the sale of the original property. SB 984 would instead give counties the option of using changes in the Housing Price Index for California to determine if the replacement dwelling is of equal or lesser value then the original home. C.A.R. supports this bill because the use of the Housing Price Index will more accurately reflect the increased cost of purchasing or constructing a replacement dwelling.Position: Support
Status: Senate Revenue and Taxation Committee2. Private Transfer Taxesa. SB 670 (Correa) Private Transfer Tax Regulation - “Private” transfer “taxes” (PTTs) are increasingly being used to settle disputes between opponents and builders or, in the alternative, by builders to proactively avoid a lawsuit or to smooth development negotiations with the local government. Typically, in return for an agreement by a potential opponent group to not pursue a lawsuit, the builder agrees to the imposition of one or more PTTs through a covenant included in the covenants, conditions and restrictions (CC&Rs). These PTTshave totaled as much as 1.75 percent of the purchase price of a home and is paid by every buyer of a home in the development for 20 to 25 years or, even, in perpetuity. As introduced, SB 670 would have prohibited the imposition of such a transfer fee. However, as recently amended, this bill would place reasonable safeguards on the imposition of these transfer fees. This bill limits the transfer fee to 1% of the home’s sale price, imposes a maximum time frame of 30 years for the payment obligation, and limits the use of the fee funds to facilities and services that provide a “public benefit” to the real property and are within the county or 25 miles of the development. SB 670 would also require that the beneficiary annually file anaudited financial statement in order to provide accountability and oversight over these funds. Finally, this measure requires a separately recoded disclosure notifying prospective homebuyers of the existence of a transfer fee payment obligation.Position: Sponsor
Status: Senate Transportation and Housing Committeeb. AB 980 (Calderon) Disclosure of Already Imposed Private Transfer Taxes – This bill will require a separate disclosure to potential home buyers as to whether the home they are considering purchasing requires the payment of a private transfer tax (PTT), the percentage of the home price constituting the PTT, the duration and recipient of the PTT payment, andan advisement to home buyers that they should take into account the benefits and costs of the PTT when deciding whether to purchase the home. The measure will require the entity that originally imposed to record the disclosure; if they do not do so, the new home buyer will not have to pay the PTT.Position: Sponsor
Status: Assembly Floorc. AB 1574 (Houston) Legitimization of Private Transfer Taxes - As recently amended, thisbill would legitimize private transfer taxes except for those that provide a direct financial benefit to the original or any subsequent seller. The bill also would provide a disclosure to potential home buyers which would identify theamount of the fee or a description of how the fee is calculated, the group to which funds from the fee will be paid, and the general purpose for the use of the funds. C.A.R. will continue to oppose AB 1574 unless it is amended to reflect the principles and concepts provided in SB 670, which is sponsored by C.A.R.Position: Oppose
Status: Assembly Floor3. AB 239 (DeSaulnier) Recording Fee Increase Authorization - Originally a re-introduction of SB 521 (Torlakson) from 2006, AB 239 would have authorized Contra Costa County to impose a document recording fee of $1 per page after the first page on the recordation of real estate related documents. As recently amended, AB 239 would authorize Contra Costa County, as well as San Mateo County, to impose a flat $25 document recording fee on all real estate related documents that are longer then one page. The revenue collected would be used for thedevelopment of affordable housing for extremely low, very low, lower and moderate income households. C.A.R. has historically viewed document recording fees as a “transfer tax” if they apply to the recording of documents facilitating the transfer of property. C.A.R. opposes AB 239 because it imposes a document recording fee without exempting documents already subject to the documentary transfer tax, and because the funds generated by the document recording fee would be used for purposes which bear no relation to document recording.Position: Oppose
Status: Assembly Floor4. Homeowner’s Property Tax Exemption Increases – Existing property tax law provides for a homeowners' exemption in the amount of $7,000 from the full value of the dwelling. Additionally, the existing Personal Income Tax Law authorizes a $120 credit for married couples or heads of households renting aunit, and a $60 credit for those renters whose adjusted gross income is $25,000 or less. The state constitution requires that any increase in the Homeowners’ Property Tax Exemption be matched by an increase in the Renters’Credit. Several measures have been introduced this year which would increase the amount of the exemption. C.A.R. supports these attempts because they will benefit both homeowners and renters with a reduction in theirtaxes. Furthermore, the current exemption of $7,000 results in a minimal reduction in property taxes because homes in California generally cost in the hundreds of thousands of dollars.a. AB 293 (Strickland) Increase and Annual Adjustment - AB 293 proposes to increase this exemption to $22,000 and would adjust this exemption annually based on changes in the Housing Price Index in California. This measure also makes the constitutionally required comparable change to the personal income tax renter’s credit.Position: Support
Status: Assembly Revenue and Taxation Committee Suspense Fileb. AB 351 (Smyth) Senior Citizen Increases - AB 351 would increase this exemption to $27,000 for individuals 62 years of age and older. Additionally, the existing Personal Income Tax Law authorizes a $120 credit for married couples or heads of households renting a unit, and a $60 credit for those renters whose adjusted gross income is $25,000 or less. AB 351 also seeks to increase this credit to $151 for senior citizen couples that are at least 62 years of age renting a unit with an adjusted gross income of $50,000, and would authorize a $75 credit for senior citizen renters, at least 62 years or age, whose adjusted gross income is $25,000 or less.Position: Support
Status: Assembly Revenue and Taxation Committee Suspense Filec. AB 388 (Gains) Increase - AB 388 would increase this exemption to $25,000, and provides for a comparable change to the personal income tax renter’s credit.Position: Support
Status: Assembly Revenueand Taxation Committee Suspense Filed. AB 495 (Tran) Senior Citizens Increases - AB 495 would increase the exemption to $25,000 for individuals 62 years of age and older. The bill also provides for a comparable change to the personal income tax renter’s credit.Position: Support
Status: Assembly Revenue and Taxation Committee Suspense Filee. AB 972 (Walters) Annual Adjustment of Renter’s Credit – AB 972 would increase the amount of the property tax exemption to 25% of the full value of a dwelling’s purchase price. This measure also seeks to increase the renter’s credit to $1,000 for couples with an adjusted gross incomeof $50,000, and would authorize a $500 credit for renters whose adjusted gross income is $25,000 or less.Position: Support
Status: Assembly Revenue and Taxation Committee5. AB 393 (Coto) Mortgage Insurance Tax Deduction - Current law allows for qualified residence interest to be tax deductible. AB 393 would bring California into conformance with federal law by treating premiums paid for qualified mortgage insurance in 2007as a qualified residence interest. C.A.R. supports this bill because homeowners would be able to also deduct mortgage insurance premiums on their income tax returns.Position: Support
Status: Assembly Revenue and Taxation Committee Suspense FileIII. Federal Taxation IssuesA. Action Items:1. Energy, Natural Disaster, and Natural Resource Tax Incentives
One of the most commonways to promote a legislative goal is to offer tax incentives to encourage private capital investments. Often time the reforms or changes requested can be expensive and the tax incentives help offset those costs. In May 2007 NAR took policy concerning the potential for tax incentives to help promote energy conservation in real property, flood and natural disaster mitigation, and support of natural resources and wildlife. (Please see attached IssuesBriefing Paper)B. Discussion/Reporting Items:1. FIRPTA
Over the past several years as identity theft has become more of a concern for everyone, sellers have grown increasingly uneasy with providing their taxpayer identification numbers. The concern has become so great that some sellers are refusing to provide the required non-foreign affidavit to the buyer or are providing an affidavit with the seller’s taxpayer identification number removed. This creates a dilemma for buyers’ who may be liable for the sellers’ tax liability from the sale of the real property if they do not receive a fully completed sellers’ affidavit. On April 17, 2007 the House passed H.R. 1677, The Taxpayer Protection Act by a vote of 407-7. Included in H.R. 1677 was the FIRPTA fix that C.A.R. has been working on. C.A.R. has been working diligently with NAR and House Ways & Means staff on getting a FIRPTA fix introduced that would allow the seller to provide the non-foreign affidavit to a settlement provider instead of the buyer. As you know, this has been a long standing issue that has hadtrouble gaining traction in Congress.Thanks to the help and efforts of Congressman Mike Thompson (D-CA), C.A.R. was able to get language attached as an amendment to H.R. 1677. H.R. 1677 was voted out of the Ways & MeansCommittee on March 28th with the FIRPTA amendment attached. H.R. 1677 was introduced by House Ways & Means Chairman Rangel (D-NY) and Oversight Subcommittee Chairman Lewis (D-GA). C.A.R. and NAR are still working on some minor changes to the language. However, these changes will have to be in the Senate version of the bill as H.R. 1677 was put on the House calendar under suspension rules, which means no amendments were allowed.
2. Mortgage Cancellation
In today's market, some individuals are "upside down" on their mortgages (i.e., they owe more on the mortgage than the fair market value of the property). If they should sell the property and be unable to repay the full amount of any outstanding mortgage debt, the lender may forgive some or the entire shortfall (this is known as a "short sale"). Similarly, in foreclosures a borrower might be forgiven some portionof a mortgage debt if the lender is not able to satisfy the mortgage liability from the sale proceeds. When some portion of a debt is forgiven, income tax is imposed on any amount that a lender forgives.Under current law, if a mortgage lender forgives or cancels a debt, the taxpayer/borrower is required to recognize income and pay tax on the amount of the canceled debt. Exceptions are provided to this rule in the case of bankrupt or insolvent taxpayers. Rules are also provided that defer taxation for relief of debt on loans for commercial and investment property, but the tax laws have never extended relief to an individual who sells a personal residence for an amount that is less than the outstanding debt on the property.
Example:Assume that an individual purchased a home for $450,000. At the time of a subsequent sale, the outstanding mortgage balance might be $435,000. If the home sells for $400,000, the individual has incurred a non-recognizable capital loss of $35,000 and is short $15,000 to pay off the outstanding mortgage. If the lender forgives this $15,000 debt, then the homeowner must recognize the $15,000 as ordinary income and pay tax on it.
Legislation is needed to assure that mortgage debt that is canceledor forgiven is not treated as income and taxed on primary residences. The House has introduced H.R. 1876, the Mortgage Cancellation Relief Act of 2007, which would allow for residential mortgage debt relief to be excluded from gross income. H.R. 1876 is currently in the House Ways & Means Committee and has one cosponsor.
Mortgage cancellation relief would only apply to first mortgages, not to “piggy-back” second mortgages,on a primary residence. Additionally, the relief would only apply to the original purchase price is a loan has been refinanced with a “cash out” option. At the time when a familyis suffering from the loss of their home it is unfair to further punish them by forcing them to pay income tax on proceeds that were never realized.C.A.R. has previously taken the policy: “that C.A.R., in conjunction with NAR, pursue changes in federal law or regulation to exempt from unfair taxation relief of indebtednessincome from short sales of principal residences.”3. 1031 ExchangesThe like-kind exchange provisions of Internal Revenue Code Section 1031 permits a taxpayer to defer taxation on capital gains if within 45 days of selling a "relinquished property," the taxpayer identifies a "replacement property" and closes on the acquisition of that property within 180 days of the sale of the “relinquished property”. The regulations for these rules provide a roadmap for securing the benefits of deferral and a well-established body of law governs these transactions.
The exchange rules have not been modified since 1991. Two developments; however, have brought new scrutiny of the rules. The first of these is an effort to repeal the exchange rules that has been mounted by farmers located primarily in Iowa and Illinois. They believe that the exchange rules have theeffect of driving up the price of farmland. A second development is the rise of the Tenant-in-Common (TIC) market since 2002.
In 2007, the Senate Finance Committee is likely to review several aspects of Section 1031. There are numerous areas they will examine, ranging from the basic to the more complicated of matters concerning 1031 exchanges. The more basic issues to be examined are whether the IRS Form 8828, which is used to figure and report the recapture tax on a federalmortgage subsidy, should be made a mandatory filing; and examining how long a 1031 exchange must be held before a replacement property can be purchased. They may also examine the issue of withholdings on boot. Boot is any part of a 1031 exchange that is not like-kind property. This can be other property or cash.
More complicated issues that may be addressed are the deferral of fees and collection of fees involved in TIC properties. The fees associated with TICs are said to range as high as 25% of the acquisition cost. Congress may examine whether taxpayers engaged in exchanges should be permitted deferral treatment for these fees. Congress will alsoexamine whether deferral treatment is appropriate for collectibles.
C.A.R. will lobby to keep like-kind exchanges unchanged and retain the current laws. C.A.R. will also continue to lobby to have the 45-day deferral for finding a “replacement” property removed in accordance with our 2004 policy.Additionally, there have recently been some possibly unlawful activities in the like-kind exchange marketplaces that are creating challenges. There have been some failures of qualified intermediary (QI) (also known as exchange accommodators) companies. Individuals and investors with funds on deposit with these companies have been unable to complete their exchanges in a timely manner because the funds had, in effect, disappeared. Those individuals could face serious tax consequences because of their inability to satisfy the 180-day test. Real estate professionals associatedwith those transactions are thus exposed to additional liabilities as well.NAR’s Tax Committee has decided to form an internal, informal task force that will explore issues such as risk management for real estate professionals who makeQI referrals, new disclosures applicable to QIs, additional restrictions of QI funds, state v. federal regulation, and increased fiduciary standards for QIs. The task force may report their recommendations during the November NAR meetings. Additionally, NAR staff will monitor the activities of the Federation of Exchange Accommodators as they work with the IRS on seeking relief for those taxpayers unable to satisfy the 180-day test because of these market failures.4. Tenants in Common (TICs)TICs (tenant in common interests) are fractional interest or co-ownership in real estate. The ownership structure, in 2002, qualified as a valid option for 1031 tax deferred exchange purposes and since then the TIC industry has grown exponentially.TICs are generally brokered in two ways, as a real estate offering and as a securitized offering. The distinction between a securitized TIC and a non-securitized TIC largely dependson how active investors are in the management of the property and the extent to which the sponsor retains an interest in the property. When TICs are securitized they are subject to federal and state securities regulation, including the requirement that persons promoting the purchase of them have the necessary securities license. Because securitized TICs also involve the ownership of real property interests, their sale is also subject to state real estate license laws, which require a real estate licenseto engage in the promotion and sale of real estate.
Currently, there is a lot of confusion among REALTORS® about the TIC market place. More than a few REALTORS® have participated in securitized TIC transactions only to find that theycould not be compensated for their work. Furthermore, a number of REALTORS® may not be aware of the risks investors might face in purchasing a securitized or non-securitized TIC.NAR is in discussions with the SEC on defining a role for real estate professionals in the brokerage of securitized TIC interests, whereby they can provide real estate services and derive compensation. NAR’s main focus is getting formal recognition from the SEC allowing REALTORS® to work in all areas of TICs. REALTORS® can advise on non-securitized TICs as long as the transaction cannot be interpreted as a sale of a security under the Supreme Court’s “Howey Test”. If the REALTOR® is found to have sold an unregistered security, they can face significant problems and may not be covered under errors and omissions coverage. The “Howey Test” is based off a ruling where the court determined that a security is where there is an investmentof money in a common enterprise with profits to come solely from the efforts of others. In order for the TIC to be non-securitized the investor must have a vote in the overall management of the property, but may not directly manage the property. So when a stock is purchased you are investing money, but have no control over the company, which classifies that stock as a security. In a TIC, as long as you have a vote/partial control on how the overall management of the propertyis done, the property is not currently classified as a security. 5. Mortgage Insurance Premium Deduction
In the last hours of the 109th Congress, H.R. 6111, the Tax Relief and Health Care Act of 2006, was passed. Inside this tax extenders and Medicare bill, a new tax deduction for mortgage insurance premiums was included. This is a one-year-only provision that would allow some 2007 home buyers to deduct the cost of theirmortgage insurance premiums (PMI). In order to qualify, the loan must originate in 2007 and can be applied to private mortgage insurance, FHA insurance, and VA and Rural Housing premiums as well. The new deduction isavailable to those with less than $100,000 adjusted gross income on a joint or single tax return ($50,000 for married filing separately) and phases out for incomes above $110,000 ($55,000 for married filing separately). Individuals whoclaim the deduction are not permitted to prepay premiums that are otherwise due after 2007. Currently this provision expires on December 31, 2007.
H.R. 1813 was introduced by Rep. Levin (D-MI) on March 29, 2007. H.R. 1813 currently has 19 cosponsors and is in the House Ways & Means Committee. H.R. 1813 would allow for PMI to be permanently deductible and would remove any income limitations. The Senate companion bill is S.1416, which was introduced by Senator Smith (D-OR) on May 16, 2007. S. 1416 is currently in the Senate Committee on Finance and has seven cosponsors.6. Employee Housing Downpayment Assistance
Due to the high cost of housing, employee downpayment assistance programs are becoming more frequent among employers as a means of attracting and retaining employees. However, under current law there are no incentives for employers to offer this benefit and this typeof assistance is often treated as taxable income to the employee. In January 2007 C.A.R took the position that: “C.A.R., in conjunction with NAR support income tax-based incentives for employer-assisted housing as part of a housing affordability strategy.”H.R. 1850, Housing America’s Workforce Act, was introduced by Rep. Velazquez (D-NY) on March 29, 2007. H.R. 1850 has been referred to the House Ways & Means and the House FinancialServices Committees. H.R. 1850 currently has seven (7) cosponsors, including Rep Baca and Rep. Loretta Sanchez. S. 1078, Housing America’s Workforce Act, was introduced by Senator Clinton (D-NY) on April 10, 2007. S. 1078 is current in the Senate Committee on Finance and has six (6) cosponsors.
H.R. 1850 and S. 1078 would allow an employer a business tax credit for up to 50% of the qualified housing expenses paid for the benefit of their employees. The credit would be limited to the lesser of $10,000 or 6% of an employees home purchase price, or up to $2000 in rental assistance. The housing assistance would also be excluded from theemployee’s gross income. 7. Tax Reform and AMT
The issue of fundamental tax reform has largely died down since the release of the recommendations by the President’s Advisory Panel on Tax Reform. At this time, most talks concerning fundamental tax reform are taking place in the Presidential debates. Nonetheless, discussions concerning an AMT patch, AMT reform, and the repeal of the AMT are still hotly beingdebated in the Congress. So far no consensus has come out on what to do concerning the AMT. The range of ideas is extreme: from another one year patch at a cost of around $55 billion to full repeal, whichis projected to cost $1.2 trillion over ten years. There are a variety of ideas also being floated, which includes the repeal of the AMT with major offsets (which have yet to be named) and keeping the AMT, but raises the tax brackets tothe pre-2001 levels (topping out at 39.6%) and raising the trigger level so that no couple making less than $250,000 would be caught in the AMT.
No firm stances have been developed yet and both parties claim that the AMT isone of their top tax priorities and are diligently working on a solution. As is the case with most taxation issues, the major issue is what to do about the lost revenue from either modifying or repealing the AMT. Mostpundits believe that the Democrats will be forced to do a one or two year patch to the AMT in order to keep more middle class families from falling prey to this stealth tax, but still staying within the budget limitations and PAYGO. C.A.R. will continue to monitor issues concerning the AMT and keep you updated on any changes.
8. Internet Taxation
In 1998 the Internet Tax Freedom Act was passed, which created a moratorium on federal, state, andlocal government from imposing taxes on internet access, creating “internet only taxes” such as taxes on bandwidth or emails, and also restricted multiple taxes on e-commerce. Since 1998 the moratorium has been extended twice and is currently set to expire in November 2007.
There are two tracts of legislation concerning internet taxation. The first is an extension of the moratorium. S. 1453 was introduced bySenators Carper (D-DE) and Alexander (R-TN) on May 23, 2007. S. 1453 would extend the moratorium for four more years and eliminate a tax loop-hole that allowed carriers to bundle internet access with other features, all tax free.The second tract would make the ban permanent. H.R. 1077, the Internet Tax Freedom Act of 2007, was introduced on February 15, 2007 by Rep. Campbell (R-CA). H.R. 1077 is currently in the House Subcommittee on Commercial and Administrative Law and has 28 cosponsors. H.R. 1077 would make the moratorium permanent. In 2000 C.A.R. took the policy that there should be no state/local taxes on internet access and that there should not be federal efforts to preempt states’ efforts to address sales and use tax issues.9. Qualified Mortgage Veteran Bonds
As home prices have risen in California, only a few select veterans in California and four other states have benefited from low-interest rate mortgages secured by Qualified Veterans’ Mortgage Bonds (QVMB). The bonds are tax exempt government obligations and are backed by the full faith and credit of the issuing state. Veterans who finance their homes through QVMBs can receive an interest rate of .50-.75 percentage points less than that of a conventional loan. Under current law, to qualify for a QVMB a veteran must have served on active duty prior to January 1, 1977 and applied for financing before their thirty-year anniversary of leaving the service. This prohibits veterans of more recent or ongoing military conflicts such as Operation Iraqi Freedom, Operation Enduring Freedom, Kosovo, Somalia, and the 1991 Persian Gulf War from being able to benefit from these loans.H.R. 551, Home Ownership for America’s Veterans Act of 2007, was introduced on January 18, 2007 by Rep. Davis (D-CA). H.R. 551 is currently in the House Committee on Ways & Means and has 47 cosponsors, including 40 from California. H.R. 551 would eliminate the requirement that you serve before January 1, 1977 and replaces it with “who applied for the financing beforethe date 25 years after the last on which such veteran left active service.” It would also use the Conventional Mortgage Home Price Index compiled by Freddie Mac to help determine inflation rates and after 2010 the limit of the amount a state is allowed to use would be adjusted based off this inflation rate (multiply the limit by the inflation adjustment factor)
10. Small Business Tax Package
Included in the attempts to have the minimum wage increased, there is anever changing package of tax incentives for small businesses attached. Included in versions of these tax packages are two tax concerns for REALTORS®. The first is the 15-year leasehold improvements. Unless renewed, this deduction will expire again on December 31, 2007 and the recovery period for leasehold improvements will return to 39 years. Currently, the language in the tax package would extend the leasehold improvements deduction until December 31, 2008.Also included in the small business tax package is language that would extend and expand the deduction that permits owners of small businesses to deduct, rather than depreciate, the cost of up to $100,000 in new equipment. The provision would expand the deduction to a $125,000 allowance and would phase out when a business had $500,000 of income.
11. Tax Gap
The Internal Revenue Service developed the concept of the tax gap asa way to gauge taxpayers’ compliance with their federal tax obligations. The tax gap measures the extent to which taxpayers do not file their tax returns and pay the correct tax on time.
The tax gap can be divided into three components: non-filing, underreporting and underpayment.Currently, Congress is pushing the IRS to close the “tax gap” in order to generate more revenue to cover the cost of programs. While no official decisions have been made as to how to close the “tax gap”, it seems that the ideas could mean more compliance rules being issued, which could prove to be a further burden on small businesses, as well as an increase in audits.IV. Other BusinessV. Adjourment
