Celebrate Earth Day by Tapping into Energy Credits

The American Recovery and Reinvestment Act of 2009 extended the federal tax credit for energy-efficient home improvements.  The credit applies to improvements in the building envelope of existing homes used by the taxpayer as a primary residence.  Equipment must be purchased between Jan 1, 2009 and Dec 31, 2010.  Eligible efficiency technologies include water heaters, furnaces, boilers, heat pumps, central air conditioning, insulation, windows, doors (including sliding glass doors and garage doors), roofs (metal and asphalt), and furnace circulating fans.  The tax credit is 30% of the system cost up to a combined limit of $1,500 for all technologies placed in service in 2009 and 2010.  When purchasing heating, cooling and water-heating equipment, the cost of labor can be included when calculating total purchase price.  The tax credit for solar panels and solar water heaters does not expire until Dec 2016 and has no upper limit; the tax credit is 30% of total cost including installation.  For more information go to http://www.energystar.gov/taxcredits

Distressed homeowners no longer have to pay California state income tax on debt forgiven in a short sale, foreclosure, or loan modification.  Enacted into law yesterday, Senate Bill 401 generally aligns California's tax treatment of mortgage debt relief income with federal law.  For debt forgiven on a loan secured by a "qualified principal residence," borrowers will now be exempt from both federal and state income tax consequences.  The existing federal exemption is for indebtedness up to $2 million, whereas the new California exemption is for indebtedness up to $800,000 and forgiven debt up to $500,000.

"Qualified principal residence" indebtedness is defined as debt incurred in acquiring, constructing, or substantially improving a principal residence.  It includes both first and second trust deeds.  It also includes a refinance loan to the extent the funds were used to payoff a previous loan that would have qualified.

The tax breaks apply to debts discharged from 2009 through 2012.  Californians who have already filed their 2009 tax returns may claim the exemption by filing a Form 540X amendment.
 
Taxpayers who do not qualify for the above exemptions (e.g., second home or rental property) may nevertheless be exempt under other provisions.  Most notably, taxpayers who are bankrupt are exempt from debt relief income tax.  Also, taxpayers who are insolvent are exempt from debt relief income tax to the extent their current liabilities exceed current assets.

For more information about mortgage forgiveness tax consequences, go to California Franchise Tax Board's Mortgage Forgiveness Debt Relief Extended webpage and the Internal Revenue Service's Mortgage Forgiveness Debt Relief Act and Debt Cancellation webpage.  The full text of Senate Bill 401 is available at www.leginfo.ca.gov. 

Economist's Commentary: Most Commonly Asked Questions on the Economy and Real Estate Market

By Lawrence Yun, Chief Economist

1. How would you characterize the current state of the housing market?

It will be a fragile recovery. Existing home sales have come down from the brisk sales pace of late last year, when buyers rushed in to meet the original homebuyer tax credit deadline. Since then, sales have come down, though they remain higher than comparable months one year ago. The rush of buyers late last year greatly aided in bringing down inventory and has begun to stabilize home values. Inventory in recent months, however, has crept upwards. Home values are not declining as sharply as they have been for the past two years, but they are not yet on definitive positive ground either, broadly speaking. Some local markets, like Boston and San Diego, are ahead in the recovery process and have shown several consecutive months of positive price gains.

2. Is another surge in homebuying anticipated as the expanded and extended tax credit deadline approaches?

Yes. Remember that home sales had been falling for nearly 4 straight years, since the frenzy of activity in 2005. Then existing home sales squeaked out a positive gain in June of last year on a year-over-year basis as the tax credit stimulus finally filtered through the system. Sales then zoomed up 23 percent in October and by a whopping 43 percent in November. Sales still remain higher in more recent months compared to a year ago, but not with the same gusto. Based on last year’s experience with when consumers respond in big numbers, we will have to wait till May and June closings for the second surge to occur. (Consumers have to sign the contract to buy by the end of April, but must close by the end of June to get the tax credit for most homebuyers, depending on qualifying conditions.) I do expect the second surge to occur, but we’ll have to wait.

3. The Federal Reserve is ending their mortgage purchase program on March 31st, which has helped keep mortgage rates at essentially rock-bottom. How much will the interest rate rise when this program ends?

The Fed has been a major buyer of mortgage-backed securities. Without this buying, mortgage rates would have been higher- perhaps notably higher, particularly so in the early months of the massive financial crisis, back in late 2008 and early 2009. However, now with the financial market stabilized and banks making profits, there appear to be plenty of private investors who are willing to purchase government-backed mortgages. Just as the Fed steps away at the end of March, the mortgage rates need not rise notably if the private investors step in. I think this will be case. After all, getting about a 5% government-guaranteed return is much more appetizing than getting a 1% return on certificates of deposit. So if the private money flows into mortgages, then the mortgage rates could remain pretty much where they have been recently. However, keep in mind that the macroeconomic forces, unrelated to the previously-mentioned Fed mortgage program, will no doubt push all interest rates higher by the year end. The economic recovery induces the Fed to step off the gas pedal and raise interest rates. Furthermore, the massive U.S. budget deficit could soon push government borrowing rates higher, which then inevitably pushes up mortgage rates.

4. What happens after the tax credit goes away? Is the housing market toast in the second half of the year?

In the immediate months after the tax credit deadline, home sales will fall notably. The rush of buyers to meet the deadline will have left very few in the pipeline. The more interesting question is what happens in the several months after the tax credit deadline, say from October and onwards. The housing recovery will depend heavily on jobs and on whether consumers have regained their confidence about home buying. Job creation naturally brings housing demand. In addition, if the home values have definitively stabilized or even show some modest increases then the many people who have been on the sideline waiting for the bottom will no longer have any further reasons to wait. According to my estimations, there appear to be more than a usual number of renters with the necessary finances to buy a home, but have chosen not to because they did not want to purchase a depreciating asset. This suggests a bottleneck in pent-up demand. If home prices show several consecutive months of stability, then there could be a rise in housing demand from these financially qualified renting households. There is no guarantee, but job creation and the removal of the ‘fear factor’ regarding home prices will provide support when the tax credit goes away.

5. What will mortgage rates be in 2011?

By December of this year, the average mortgage rate could be close to 6 percent from the current 5 percent average rate. By December of 2011, the rate could be 6.5 percent. I do not foresee the rate going above 7 percent, at least for a prolonged period, in the next two years. The reasons for the increase are due to the macroeconomic forces of a recovering economy and a very high budget deficit. But relatively benign consumer price inflation will keep the lid on mortgage rates from rising too high. For those engaged in the jumbo market, you will note that rates are already that high. But the high rate on jumbo mortgages and on construction loans is due to the lack of government backing for these loans. From about the second half of this year, the banks will clearly have built up a strong capital buffer, and any further bank profit will then be used for lending to non-government backed sectors. So the mortgage rates on jumbo and commercial real estate could indeed fall a bit due to an improvement in the bank capital situation just as rates on conventional and FHA mortgages rise from macroeconomic factors.

California short sellers to pay tax on mortgage debt- BUT MAYBE NOT!!

Governor Schwarzenegger last week vetoed a bill that would have prevented California homeowners who sold their homes via short sales or received loan modifications in 2009 from being taxed on the forgiven mortgage debt.  Schwarzenegger vetoed the bill, which would have aligned much of the state’s tax code with that of the federal government’s, because it contained an unrelated provision regarding tax refunds for the state’s largest businesses.  Although the governor vetoed this particular bill, he expressed his support for banning taxation of forgiven mortgage debt, and immediately called for the legislature to send him a bill to provide tax forgiveness prior to the April 15 tax-filing deadline.

C.A.R. currently is supporting two stand-alone measures, AB 1779 (Niello) and SB 14 (R. Calderon and L. Correa) of the Sixth Extraordinary Session, that would fully conform to the federal rule extending "phantom" income debt forgiveness through December 31, 2012.

Gov. Schwarzenegger signs Assembly Bill 183, the Homebuyer Tax Credit legislation, into law. 
 

AB 183 will provide $200 million for home buyer tax credits, allocating $100 million for qualified first-time home buyers of existing homes and $100 million for purchasers of new, or previously unoccupied, homes. The eligible taxpayer who purchases a qualified personal residence on and after May 1, 2010, and on or before Dec. 31, 2010, or who purchases a qualified principal residence on and after Dec. 31, 2010, and before Aug. 1, 2011, pursuant to an enforceable contract executed on or before Dec. 31, 2010, will be able to take the allowed tax credit. The credit is equal to the lesser of 5 percent of the purchase price or $10,000, in equal installments over three consecutive years. Under AB 183, purchasers will be required to live in the home for at least two years or forfeit the credit (i.e., repay it to the state).

The positive impact of the federal home buyer tax credit is clear. Nearly 40 percent of first-time home buyers said they would not have purchased a home if the federal tax credit for first-time home buyers was not offered, according to C.A.R. research conducted last year.

The state’s previous home buyer tax credit program was so successful that it ran out of tax credits by the end of June 2009, eight months before it was set to expire and just as housing markets appeared to be turning a corner.  Unlike last year’s legislation, AB 183 adds a tax credit for the purchase of an existing home by a first-time home buyer.

AB 183 will significantly contribute to the effort to stimulate jobs-creation within California's housing market by helping to incentivize first-time home buyers to purchase homes that have been abandoned, foreclosed upon and returned to the lender, or have been sitting on the market for extended periods of time. It is these homes that will require substantial rehabilitation by the new owners, which will in turn generate a tremendous increase in jobs and accessory purchases connected to home improvement activities.

FIVE CREDIT SCORE KILLERS

NEW YORK (CNNMoney.com) -- As banks shy away from making risky consumer loans, a mediocre credit history just won't cut it anymore. To get the best rates on mortgages, credit cards and auto loans, you need a killer score.

Your FICO score is a numerical measure of your creditworthiness that ranges from 300 to 850. While there are a few different credit scoring systems available, it's the FICO score, created by the Fair Isaac Corporation, that most lenders look at when they check your credit.

Lenders have already raised their standards by about 20 to 40 points this year, according to Barry Paperno, consumer operations manager at FICO. So while a score in the 720 to 740 range would have gotten you the best rates on a mortgage in the past, you now need a score of at least 760 to snag the best loans.

"Requirements are higher than in the past so you're going to have to be more diligent this year," said Paperno.

FICO focuses on five categories when calculating your score: How much debt you have, your payment history, your debt utilization ratio (how much you owe in relation to your credit limits), how far back your credit history goes and your mix of various types of credit.

Here are a few things that can wreak havoc on your score and wreck your chances of getting an affordable loan:

1. Making late payments

A single late payment on a credit card or other loan could ding your score by as much as 110 points if you already had a great score and 80 points for someone with an average score. So the best thing you can do to improve your score is make payments on time.

"This continues to be the number one reason scores are lower," said Paperno. "In addition to being a heavily weighted part of your score, if you're late on a payment, it's going to continue to appear on your credit report for about seven years."

If you've made mistakes in the past, you can't change them, but you can outlive them. The longer it's been since you were late on a payment, the less of an impact it will have on your score, but "your history does follow you," said Paperno.

Since payment history accounts for about 35% of your total score, it's really important to start paying on time.

2. Carrying a big balance

Your debt utilization ratio accounts for almost 30% of your score. So carrying too much debt will not only cost you a fortune in interest, it can also destroy your credit rating.

"The best thing to do is pay your bills on time and pay as much of the balance as possible to try to keep your debt utilization ratio down and raise your credit score," said Bill Hardekopf of Lowcards.com.

As part of the CARD Act that went into effect last month, credit card issuers must now include a chart with your bills that shows how long it will take to pay off your balance if you only make the minimum payments. The chart will also display how much you need to pay each billing cycle in order to completely pay off your balance in three years.

Hardekopf thinks the new information will be a huge wake-up call for most consumers, and even he was alarmed by the calculations on his own statement.

"It was shocking," he said. "This is going to have a dramatic effect on how much people are paying when they see it in black and white, and will be a positive move for their credit score."

3. Closing a credit line

As credit card companies jack up interest rates and add inactivity fees to compensate for lost revenues, it's tempting to just close your accounts.

But closing a line of credit could impact your debt to utilization ratio, said Hardekopf.

For example, if you have two credit cards with a limit of $1,000 each and a $400 balance on one card, closing the other account will immediately double your debt to utilization ratio from 20% to 40%.

But the negative effect varies greatly. Closing one card could have a very small impact if you have lots of other high-limit cards.

You can also counteract some of the impact by opening up a new line of credit. But beware: that can also impact your score.

4. Opening a credit line

"When you open a new account, you'll knock some points off your score," said Paperno. "The reason why is that the people who open new accounts tend to be of a higher risk level immediately after opening a new account."

In order to open a new account, a credit card company will need to check your credit, and a typical "hard" inquiry like this will lower your score by about five points, plus the cost of opening a new line of credit typically ranges from five to 15 points.

But the temporary ding only lasts about six months, so if you're in a stable financial situation, the score reduction could be worth it, said Paperno.

"You can look at it as a long-term strategy and go in with the idea that you might lose a few points now but in the long run you might be better off because you'll have more credit available," he said.

5. Defaulting

Defaulting on a loan is the single worst thing you can do for your credit, said Rex Johnson, founder of credit union consulting firm Lending Solutions Consulting. And given the down economy, more people are damaging their credit scores through foreclosures, credit card charge offs and bankruptcies.

A home foreclosure, for example, might dock about 200 points off your score and a short sale could cost you around 80 to 90 points, said Johnson. Declaring bankruptcy could lower a good score of 750 by up to about 250 points, Johnson said.

While most negative information stays on your report for seven years (bankruptcies can stay on for 10 years), it's never too late to start rebuilding your credit.

"People have been hit hard by the economy and those who had really good scores now have scores in the 500s and want to just give up," Johnson said.

But certain good behaviors like making on-time payments, taking out a small loan and paying it off and keeping a low balance, can get your score back up in the mid-600s or low 700s in a little over 2 years, said Johnson. 

Mixed Messages

By Lawrence Yun, Chief Economist, NAR Research

We got many mixed economic messages over the past month. Yes, the economy appears to be on a path towards a sustainable expansion. The economy grew by a solid 5.9 percent in the fourth quarter and is expected to expand by nearly 3 percent for the rest of the year. However, that growth in production has not yet generated jobs. The unemployment rate was unchanged at 9.7 percent in February and could actually tick higher before coming down.

And housing? The housing market is still in a delicate position. The good news is that home values appear to have stabilized. The bad news is that foreclosures remain very high and, despite various government policies enacted to slow the loss of homes, will unfortunately be that way for the rest of the year. New home sales are in the tank, but that is due to builders not putting up any construction - partly due to caution about the strength of housing demand and to the difficulty in obtaining construction loans due to extremely tight credit conditions.

On the other hand, existing-homes sales have been doing better; nearly all states recorded year-over-year sales gains in the fourth quarter of 2009, greatly spurred by the home buyer tax credit. However, the sales momentum lost a step in January and probably fell further in February due to unusually severe snowstorms in many parts of the country. The best estimate at the moment is for relatively weak first quarter existing-home sales (a 5.1 million unit annualized rate) followed by a surge in the second quarter (5.8 million) as the home buyer tax credit deadline nears.

Home sales in the second half of the year will depend on consistent job creation. In February, net payroll job cuts totaled only 36,000. While any net job loss is not a good thing, compared to the last two years when job losses averaged about 400,000 each month, the latest job loss figure appears much more comforting. The abnormal snowy weather probably held back hiring by about 100,000. In other words, jobs indeed may have actually squeaked out a gain had the weather been more normal this winter.

While the unemployment rate was unchanged at 9.7 percent, remember that the unemployment rate is based not on company payroll data but rather on asking people if they have a job. In a separate household survey (not company data), there were 308,000 job additions in February. Despite that, the unemployment rate did not fall because many more people looked for a job but still couldn't find one. Furthermore - and less intuitive - the unemployment rate could rise in the upcoming months even as jobs get added. A person has to be looking for a job to be counted as unemployed, and there is a sizable number of people who simply stopped looking in recent months. Consequently they are not counted as one of the unemployed. As the job market improves, this part of the workforce will re-start their job search and hence will show up in the unemployment figure. It is jobs and paychecks - not any up or down change in the unemployment rate - that provide the foundation for households to potentially purchase a home. An elevated or rising unemployment rate (even as jobs are being created) can have a negative psychological impact of holding back buying even among people with jobs.

Looking closer at the all-important employment data give us some disparate views. Construction jobs took it on the chin yet again, shedding 64,000 payrolls in February. Very low new home construction and the lack of commercial real estate construction was a big factor. On the positive side, employment in rental and leasing companies rose by 400, the first increase in nearly two years. In other noteworthy sectors, the hard-hit manufacturing sector has finally added jobs. Still, since the high mark of 17.5 million workers in the sector, there are now only 11.5 million workers in manufacturing. Jobs in the professional business service sector (including accounting, management consulting, and law offices) rose by 51,000 in the past month - a fifth consecutive monthly gain which may hint at a potential recovery for office space demand for commercial REALTORS®. Temporary help employment also rose for a fifth straight month. Because many companies first turn to temp jobs when coming out of a recession, this rising trend should imply permanent job creations starting in few months.

Then there is the government sector. Jobs in state government rose by 6,000 but those in local government fell by 31,000. There will be pressure throughout this year for further job cuts as most state and local governments are running relatively high budget deficits and generally have to balance their books by law. Meanwhile, the federal government keeps on hiring. There is nothing like a stimulus package and expansion of government programs to add jobs, particularly in the D.C. Region. Federal government employment rose by 7,000 in February and by 66,000 over the past year. It's a safe bet that the D.C. area will get its cut of all the taxpayer dollars that are sent to Washington.

The average hourly earnings of all private sector employees rose by 3 cents to $22.46. From one year ago, wages are up by only 1.9 percent, the slowest gain in about 5 years. However, because the cost of living, as measured by the Consumer Price Index (CPI) fell slightly in 2009, the low wage gain still implies a gain in purchasing power. Of course, that is no solace for people without a job. Weak wage growth will keep the lid on consumer price inflation. This also means that the Federal Reserve can continue to remain very accommodative in its monetary policy. After all is said and done the 30-year average mortgage rate will not rise above 6 percent in 2010.

Signs of improving employment prospects will likely lead some people cramped in apartments with several roommates or with parents to start searching for their own place. This unleashing of household formation is expected in 2010 because household formation had been suppressed big time over the past two years. History tells us that household formation generally does not remain suppressed for three straight years, and there always tends to be a nice pop in new households as the economy begins to recover. Assuming this past pattern is realized in 2010, there can be a nice growth in both home sales demand and rental demand.

One other thought. In this "year of the Census" we should also watch those population numbers. With about 4 million live births, 2 million deaths, and about 1 million newly arriving immigrants each year, there will be a steady demand for homes - eventually. Historically, the net number of home-owning households rises by one million each year. The 2 million weddings and 1 million divorces each year also lead to changes Signs of improving employment prospects will likely lead some people renting apartments to start searching for their own place. in living patterns. Furthermore, current homeowners will be looking for a new place to live every 7 to 10 years. As a result, over the next 10 years, there will be anywhere from 50 to 70 million home sales.

How those sales are divided by years will be determined by various underlying factors such as mortgage rates and the number of jobs. Assuming that the membership of the National Association of REALTORS® remains steady at its current level of 1.2 million over the next decade, on average there could be 100 transaction sides per member over the next decade. REALTORS® have different methods of doing business so there will naturally be great variations as to who will "book" more than the average number of transaction sides. One thing is clear, however. According to NAR's survey of home buyers and home sellers, 80 percent of clients indicated that they would recommend their REALTOR® to other family members, friends, and colleagues. That is definitely worth repeating and remembering: clients are happy not with just any agent, but their own specific REALTOR®. Plan your business with this in mind.

"Affordability measures are at their highest levels in years and home sales are moving toward normal levels. Nationwide, foreclosure sales have declined from 29 percent of total sales in November 2008 to 23 percent of sales in November 2009," said Michael Feder, president and CEO of Radar Logic.