BILL ANALYSIS
SENATE REVENUE & TAXATION COMMITTEE
Senator Lois Wolk, Chair
SB 206 - Dutton
Amended: July 2, 2009
Hearing: July 8, 2009 Tax Levy Fiscal: Yes
SUMMARY: Enacts New Tax Credit for Income-Eligible
Individuals to Purchase Foreclosed Houses
EXISTING LAW provides various tax credits designed to
provide incentives for taxpayers that incur certain
expenses, such as child adoption, or to influence behavior,
including business practices and decisions, such as
research and development credits and Geographically
Targeted Economic Development Area credits. The
Legislature typically enacts such tax incentives to
encourage taxpayers to do something but for the tax credit,
they would otherwise not do.
EXISTING LAW authorizes a $10,000 tax credit for
taxpayers purchasing qualified homes after March 1st, 2009
and before March 1st, 2010. A qualified home has never
been lived in before and must serve as the purchaser's
primary place of residence. The taxpayer must apply the
credit in equal amounts over the next three tax years, and
must return a certification to FTB from the seller
certifying that the house has never been lived in within
one week of the sale. The Legislature appropriated $100
million for the credit, which the FTB allocates on a
first-come, first-served basis (SBx2 15, Ashburn).
THIS BILL enacts a tax credit equal to 10% of the
purchase price of $8,000, whichever is lower, for purchase
of a foreclosed home in possession of the lender.
SB 206 - Dutton
Page 5
Taxpayers may claim the credit for purchases made within
one year of the effective date of the bill. Taxpayers may
only use the credit for purchasing one house, which will
serve as the taxpayer's primary place of residence for
three years and is eligible for the homeowners' exemption
from property tax. The credit shall be disallowed if the
taxpayer does not occupy the house for three years, and FTB
will collect any underpayments from the taxpayer.
Furthermore, the bill limits the credit to taxpayers who:
Have adjusted gross incomes of $95,000
(single)/$170,000 (joint) or below.
Claim the credit on an originally filed
return.
THIS BILL specifies that the total amount of credits
shall not exceed $130 million in the 2009-10 fiscal year,
and $100 million in 2010-11. The measure also specifies
that the General Fund shall be repaid from the Neighborhood
Stabilization Funds 2 Program administered by the
Department of Housing and Community Development. The
credit sunsets on December 1, 2012.
THIS BILL allows FTB to issue rules, guidelines, and
procedures to administer the credit, and specifies that the
credit is not subject to the 50% of liability cap enacted
as part of last year's budget (AB 1452, Committee on
Budget).
THIS BILL also makes legislative findings.
FISCAL EFFECT:
According to FTB, SB 206 results in revenue losses to
the state of $130 million in 2009-10 and $100 million in
2010-11.
COMMENTS:
A. Purpose of the Bill
SB 206 - Dutton
Page 5
According to the Author, "California's economy
continues to struggle, and the unemployment rate has risen
to 11.2 percent. Housing prices are also plummeting. The
median price of a single-family in California is now
$253,040, a 39 percent decrease from a year ago. This
credit, coupled with the federal tax credit, will stimulate
homebuyer's to enter into the market, stimulating the
economy, stabilizing housing prices, and generating state
tax revenues. This tax credit will also incentives
homebuyers to purchase at an ideal time, as prices and
interest rates are significantly lower than in recent
years."
B. Existing Tax Credit for New Home Purchases
The Legislature enacted SBx2 15 (Ashburn) in February,
providing a tax credit of up to $10,000 for taxpayers
buying never before lived in houses between March 1, 2009
and March 1, 2010. As of July 1st, FTB issued certificates
for $51 million in credits based on $102 million in credit
claims, although FTB cautions that these figures are based
on claims amounts. Given that taxpayers have now claimed
more than $100 million in credits, FTB may soon stop
accepting new claims. FTB accepts applications only by
fax, and has not yet sent notifications to taxpayers of
credit allocations because it must first develop a system
to capture and verify application information, allocate
credits, and send letters. Taxpayers may only claim the
credit after FTB allocates the credit.
C. What's Different?
SB 206 loosely mirrors the recent federal first-time
homebuyer's credit enacted by Congress in 2008 and modified
earlier in 2009. This credit differs from the
SB 206 - Dutton
Page 5
recently-enacted tax credit for house purchases in four
notable ways.
First, only taxpayers who have adjusted gross
incomes below $95,000 single/$170,000 joint are
eligible for SB 206; the federal credit phases out for
taxpayers with modified adjusted gross incomes above
$75,000/$150,000
Second, taxpayers may claim the federal credit for
existing homes as well as those never previously
inhabited. SB 206 only allows the credit for
foreclosed homes in the hands of lenders. Taxpayers
may only claim the current California credit for
houses that have not previously been occupied.
Next, the credit amount is the same as the federal
credit, but lower ($8,000) than the current state
amounts ($10,000), although taxpayers must apply those
credits in equal shares over the next three taxable
years instead of taking the credit in one year, as SB
206 allows. The federal credit, unlike current and
proposed state credits, is refundable, and can even be
counted toward the down payment.
Additionally, the existing credit applies for sales
made between March 1, 2009 and March 1, 2010; the
federal credit for purchases between January 1, 2009
and December 1, 2009. SB 206 credits endure until
December 1, 2011 as long as credit claims do not
exceed 130 million in the 2009-10 fiscal year, and
$100 million in 2010-11, although the measure does not
provide direction to FTB if credit claims exceed these
amounts, unlike SBx2 15.
D. Benefits of Homeownership
Just as investors want the companies they hold equity
in to do well, homeowners have a financial interest in the
success of their communities. If neighborhood schools are
SB 206 - Dutton
Page 5
good, if property taxes and crime rates are low, then the
value of the homeowner's principal asset--his home--will
rise. William Fischel calls this the "home voter
advantage;" and states that through buying homes,
homeowners become watchful citizens of local government,
not merely to improve their quality of life, but also to
counteract the risk to their largest asset, a risk that
cannot be diversified. Meanwhile, their vigilance promotes
a municipal governance that provides services more
efficiently than do the state or national government.
Furthermore, the federal government recently
apportioned $6.6 billion for new homebuyers in the economic
stimulus package; the intent is to increase homeownership
thereby stimulating the economy by putting more people to
work through the construction and sale of the home.
According to a study by the Association of Realtors, home
buyers also help carry the economy. California's housing
construction contributes $40 billion per year to the
State's economy. Home building, they state, is responsible
for 359,000 jobs statewide and every dollar spent on new
housing construction generates approximately $1.95 in total
economic activity.
E. Most Tax Subsidized Asset Class in History?
In the United State, federal and state government
subsidies for house purchases may be unmatched throughout
the world. Homeownership is clearly a public goal because
similar benefits are not afforded to any other asset class.
Tax subsidies include:
Mortgage Loan Interest: Taxpayers may deduct
interest payments on up to $500,000 single/$1 million
joint of indebtedness used to purchase a first and
second home. Taxpayers may also deduct interest
payments on up to $100,000 in home improvement loans.
The Department of Finance estimates that this tax
benefit results in more than $5.4 billion in foregone
SB 206 - Dutton
Page 5
revenue in 2009-10.
Capital Gains Exclusion: Taxpayers may exclude up
to $250,000 single/$500,000 joint in income resulting
from the sale of their principal residence. The
Department of Finance estimates that this tax benefit
results in more than $3.7 billion in foregone revenue
in 2009-10.
Deductibility of Property Taxes: Taxpayers may
deduct property taxes from federal income, although
California's low property tax rates limit the benefit
for Californians compared to residents of other
states.
Federal and State House Purchase Tax Credits: Both
Congress and the Legislature enacted tax credits for
taxpayers who purchase house in 2009.
F. Most Subsidized Asset Class in History?
Tax subsidies are just the beginning of government
subsidies for housing. In addition to other state and
federal efforts to assist first-time homebuyers and
administer down payment assistance, the Federal National
Mortgage Association (FNMA, or Fanny Mae) and the Federal
Home Loan Mortgage Corporation (also known as Freddy Mac),
are government-sponsored entities (GSEs), but owned until
recently by its shareholders who received all after-tax
income and valuation changes. GSEs purchase loans from
lenders that conform to specified guidelines, then issue
mortgage backed securities (MBS), securitizing the revenue
streams from these conforming loans to investors. Part of
the attraction of GSE MBS is that the GSE guarantee MBS
investors timely payment of principal and interest,
providing mortgage market liquidity and offering investors
a fixed rate of return without credit risk. Before this
year, GSE MBS traded very much like U.S. Treasuries because
of the lack of credit risk and the implicit federal
guarantee. GSEs issued between $1.2 and $1.3 trillion in
MBS from 2004 and 2007.
SB 206 - Dutton
Page 5
Two key events necessitated changes in GSE MBS in
2008. First, increasing loan defaults and deterioration in
collateral values corroded the GSE balance sheets, leaving
the entities unable to make timely payments of principal
and interest to MBS holders, necessitating federal
conservatorship. The U.S. Treasury made significant sums
available to the GSEs to maintain the guarantee, and likely
will need to allocate more. Essentially, the functionally
insolvent GSEs now partially rely on the U.S. taxpayer (and
its credit rating) for its MBS guarantee, thereby ensuring
that mortgage lenders have sufficient liquidity to keep the
house purchase market functioning. Second, demand for
private MBS disappeared. Now known as "toxic assets,"
issuance exceeded $900 billion in 2006 and 2007 but totals
less than $100 million in the last nine months. Soon
after, worldwide investors sold off GSE MBS, pushing
spreads against treasuries to 20-year highs earlier this
year, spurring the Federal Reserve Bank to authorize
purchases of $1.2 trillion of GSE MBS and up to $200
billion in GSE debt "to provide support to mortgage lending
and housing markets and to improve overall conditions in
private credit markets," according to its last three
statements. Without MBS purchasers, GSEs cannot buy loans
from lenders, liquidity dries up, and house prices fall as
purchases are limited to bank-held loans and cash
purchasers. Recent accounts from bond traders indicate
that the Federal Reserve is dominating purchasing on the
GSE MBS market. In another indicator of the state of
refinance markets, the GSEs announced on June 25th that
current mortgage holders could refinance up to 125% of
loan-to-value ratio.
Given existing tax subsidies, GSE-spurred
liquidity, the federal GSE backstop, GSEs refinancing
homeowners with negative equity, and the Federal Reserve
printing money to pour more than one trillion into the U.S.
mortgage financing market, will another tax break actually
accomplish anything more than rewarding purchasers for a
decision they would make anyway regardless of a tax credit?
The Committee may wish to consider whether another tax
credit is merited given the unprecedented scale of
SB 206 - Dutton
Page 5
government intervention in the housing market.
G. Of Free Markets
After a tumultuous period, California real estate
markets are showing signs of life. Statewide, median house
sales prices have declined approximately 50% from the peak
in mid-2007, and far more in other areas. News reports
indicate that while higher priced homes are not selling
quickly or for amounts near initial purchase prices, buyers
are purchasing lower-priced houses in select markets,
supporting long-standing economic theory that posits as
prices fall, quantity demanded increases. Increasing
foreclosures add to supply, further pushing house prices
down and increasing measures of housing affordability for
everyone. Even with the price changes in housing markets
in recent years, markets again show that they work, and
that the best incentive for house purchasing is low prices.
SB 206 further complicates the market by providing tax
credits for foreclosed homes, which appear to be the ones
buyers are interested in most because of low prices.
Granting buyers who are already interested in foreclosed
homes a tax credit for foreclosed homes currently on the
lender's books artificially stimulates demand for these
assets, leading to higher prices than buyers could demand
without the credit, leading to a windfall for the same
banks who may have peddled the faulty loan products used to
initially finance the house, only to subsequently foreclose
(although many will appreciate any boost to regulatory
capital requirements). When the market is working, why
should government interfere, especially when the result may
be a subsidy from all California taxpayers to the very
entities that in no small part caused the current
foreclosure crisis?
Support and Opposition
SB 206 - Dutton
Page 5
Support:California Association of Realtors
California Tax Reform Association
Oppose:None received
---------------------------------
Consultant: Colin Grinnell