By Harvey S. Jacobs May 25, 2012

I recently attended the National Association of Realtors legislative meetings and trade expo in Washington. More than 14,000 real estate agents in the organization rallied on Capitol Hill, urging lawmakers to protect the American dream of homeownership.

Not surprising, the Realtors advocate maintaining the status quo on four tax code provisions. These legislative positions, though helping the members, are anything but we-win-you-lose propositions.

Here’s how the four recommendations will benefit millions of homeowners and prospective homeowners as well as the nation’s economy:

  • Mortgage interest deduction: Although acknowledging that the country must address its budget deficit, the Realtors are strongly opposed to any legislation that would reduce or eliminate the mortgage interest deduction, the federal income tax deduction for interest paid on debt secured by a first or second home.

Under current law, taxpaying homeowners are allowed to deduct the interest paid on their first and second mortgages up to $1 million of home acquisition debt plus interest paid on up to $100,000 of home equity debt. Home acquisition debt means debt used to buy, build or substantially improve your main or second home. IRS Publication 936 provides detailed guidance on home mortgage deductibility.

  • Property tax deduction: Similarly, the Realtors oppose any legislation that would reduce or eliminate the federal deduction for state and local property taxes. State and local governments rely on that tax revenue for general obligations, roads and schools.
  • Capital gains: Currently, homeowners are allowed to exclude from taxation the first $250,000 ($500,000 for married couples) of capital gain upon the sale of their home. Although many American taxpayers are carrying capital losses these days, the prospect of someday selling one’s home and walking away with a $500,000 tax-free capital gain is a very strong incentive in the home-buying decision.

A capital gain is the difference between the home’s net selling price and the taxpayer’s cost basis in that home. A homeowner’s net selling price is the sales price less commissions and other fix-up costs incurred immediately before its sale. A taxpayer’s basis is the home’s original purchase price, plus the closing costs (but not costs relating to any mortgage), plus the cost of any capital improvements made to the home. For primary residences, depreciation does not come into play, because for federal tax purposes you cannot deduct depreciation expenses.

Capital improvements are, generally speaking, improvements that have a useful life of more than one year. IRS Publication 523 addresses the tax implications of the sale of your home.

Capital gains and home equity are often confused. Home equity is the difference between the home’s market value and the total outstanding balances on all mortgages secured by that home. Home equity is created in two ways: first, by the overall market appreciation in the home’s value. The second way is by the monthly amortization. In a self-amortizing mortgage, i.e., one that will pay itself off over time, a portion of each monthly payment goes toward the interest for the use of that money, and a portion goes to reducing the outstanding principal. The amount applied from each monthly payment to the principal increases over time in an amortizing mortgage.

For many Americans, the equity built up in their homes may be the only savings they can afford. If this very valuable tax benefit were eliminated, many homeowners would see their life savings sapped by an enormous tax bill.

  • Mortgage Forgiveness Debt Relief Act: Finally, the Realtors advocate extending the Mortgage Forgiveness Debt Relief Act, set to expire Dec. 31. The law directs the Internal Revenue Service not to tax homeowners who have had mortgage debt forgiven by their lenders. Before Congress stepped in, this tax on so-called phantom income was a double whammy.

The tax code defines forgiven debt to be taxable income. So before the new law, if a homeowner convinced his or her lender to accept a short sale and forgive the deficiency between what was owed on the mortgage and the short sale price, the IRS sent the homeowner a tax bill on that deficiency amount.

This sad situation often resulted in taxpayers losing their home and still being subject to an enormous tax bill. If Congress fails to extend this benefit, many thousands of underwater homeowners may find themselves in this exact situation.

Harvey S. Jacobs is a real estate lawyer with Jacobs & Associates Attorneys at Law in Rockville. He is an active real estate investor, developer, landlord, settlement attorney, lender and Realtor. This column is not legal advice and should not be acted upon without obtaining your own legal counsel. Contact Jacobs at (301) 417-4144, or