Will the new tax laws affect Valley home prices?

The National Association of REALTORS chief economist, Lawrence Yun, predicts that new tax laws limiting deductions will cause home values in high-tax states such as California to drop, “potentially by up to 5 percent” according to CNBC.

Unleash Lawrence Yun!

It’s credible.

NAR lobbied hard but unsuccessfully to keep the $1M loan cap on mortgage interest deductions, but I doubt that Yun’s prediction is simply a case of I-told-you-so sour grapes.

Yun has the gravitas you look for in a real estate economist, and predicting a price decline is the last thing NAR’s members want to hear.  Kudos to NAR for letting Yun speak “that which must not be said”, although it may simply be that it learned from the overly-rosy, credibility-destroying predictions that got Yun’s predecessor fired.

But with all due respect to Yun, I think the truth is more nuanced than a simple statewide reduction in home prices.

There’s a lot of confusion about what the new tax laws do, so let me add to that with these bullet points, not to be confused with tax advice:

  • the mortgage interest deduction is limited by a new maximum loan amount of $750k, down from $1M
  • deduction of state and local taxes, including property tax, is now capped at $10k
  • the standard deduction has been doubled, although there’s some debate over whether “doubled” really means “doubled”

According to REALTORMag, the NAR’s daily online magazine, the five metros “most affected” by these changes include three in the Bay Area mega-region:  San Jose-Sunnyvale-Santa Clara (aka Silicon Valley), San Francisco-Oakland-Hayward and Santa Cruz-Watsonville (Santa Cruz County).

Hey!  That’s us!

Here’s the scenario, according to REALTORMag:  “In San Jose and San Francisco…home buyers in 2017 were able to deduct up to $33,260 from their taxable income with the [previous] mortgage deduction.  Under the new law, home buyers will only be able to deduct up to $24,945.”

“Owners in these areas will be able to deduct up to $10,000 for real estate taxes.  But in San Jose, a quarter of owners paid more than $10,000 on their real estate taxes in 2016.”

As high as San Jose metro home prices are, compared to the national median, they’re even higher in cities to the north such as Los Altos, Mountain View and Palo Alto.  And since property taxes are based on sales price, plus a relatively modest upward adjustment each year thanks to Prop 13, home owners in these cities, particularly those who bought recently at boom prices, will be hit even harder by the new deduction limits.

 

There’s no question that this is one of the biggest challenges to face Silicon Valley real estate in the nineteen years I’ve been selling homes.  Yet I wonder how much it’ll really matter.

Downtown Palo Alto after tax reform.

First of all, let me say that I’d [heart] [heart] [heart] to see home prices go down 5 percent.  My trust beneficiary cares more about property values than I do, and a dip in the market might keep a few local techies from buying in Sacramento or San Diego.  My only reservation is that I’d hate to see former clients damaged, but I think the damage would be short-term, and in the long term, Silicon Valley real estate has been more than kind to home owners.

But my guess is that the effect of the new tax laws will be minimal to non-existent in this immediate area, especially when buyers factor in the increase in the standard deduction.  Maybe I’m just whistling past the graveyard, but then again, I don’t see Silicon Valley real estate through the lens that so many do, even those who should know better:  normal people paying normal prices for a normal lifestyle, reacting predictably to market events.  Instead, I see the Valley through the lens of my clients:  exceptional people paying exceptional prices for an exceptional lifestyle, makings lots of money and having lots of fun doing it.  The heartland is right:  we’re not normal.  That’s why we rise when others are tanking, and tank when others are rising.

Besides, this area is already brutally expensive.  Somehow I doubt that becoming incrementally more brutally expensive is going to matter much.

That’s because in nineteen years of selling homes I’ve never heard a buyer client utter the word “deduction”.  I’m sure they run the numbers, but buying here has always been more a right-brain than a business decision.

No one I’ve met got into contract just to get those nifty deductions.  Hardcore number crunchers always get tripped up by the unknowable what-ifs:  price appreciation, downturns, interest rates.  Buying in Silicon Valley requires lots and lots of the kind of commitment that comes only from an emotional connection to the area and an emotional investment in living here over the long term.

Yes, there’s always a price ceiling that at any one moment buyers won’t exceed, but quality lifestyle comes at a premium, and we have buyers willing and able to pay it.

In any case, we’ll know soon enough.  My guess is that, at worst, we’ll see the sort of mild slowdown this spring that we saw in late 2016, when every buyer was looking over their shoulder to see how every other buyer was reacting to the uncertainty and unprecedented weirdness of the presidential campaign.

Paradoxically, the new deduction limits may have the most effect on cheaper, outlying parts of the Bay Area mega-region, the second- and third-choices for buyers that always take the biggest hit when the market pauses.  Given the pent-up demand for core Bay Area neighborhoods, I wouldn’t be surprised if softening prices lure many buyers off the sidelines, once they think most of the damage is over.

At best (at least from a seller’s perspective) the new tax laws will bounce off Silicon Valley like bullets off Superman.  I’m guessing that low inventory and surging stock market wealth will mitigate any drop-off in demand and keep the circus in town at least one more spring.

copyright © John Fyten 2018

 

 

 

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