The first-time homebuyer credit, introduced by the Housing and Economic Recovery Act of 2008, PL 110-289 (the 2008 act), has been substantially modified and clarified by two developments this year: the passage of the American Recovery and Reinvestment Act of 2009, PL 111-5 (the 2009 act), and the issuance of IRS Notice 2009-12 (IRB 2009-6). This refundable credit, as part of the federal government’s overall economic stimulus effort, is intended to enhance buying incentives in the current economy and encourage and aid first-time homebuyers. A first-time homebuyer is defined as an individual (and if married, the individual’s spouse) who has not had an ownership interest in a principal residence in the three-year period ending on the date of purchase (IRC § 36(c)(1)).
A comparison of the basic provisions of the credit as originally enacted by the 2008 act, and as modified by the 2009 act, is shown in Exhibit 1. The 2008 act’s original provisions are generally applicable to purchases made between April 9 and Dec. 31, 2008, and the 2009 act’s provisions apply to purchases made between Jan. 1 and Nov. 30, 2009 (section 36(h)). For 2008 act purchases, the amount of the credit is 10% of the purchase price of the residence, up to $7,500 ($3,750 for married filing separately status) and, for 2009 act purchases, up to $8,000 ($4,000 for married filing separately status) (section 37(b)(1)). The credit is phased out for higher-income taxpayers (section 36(b)(2)).
As originally authorized under the 2008 act, the credit is a virtual no-interest loan, as the taxpayer must repay it as additional taxes in equal annual installments over 15 years, beginning with the second tax year following the tax year of purchase (typically, 2010 for 2008 purchases). This repayment, or general recapture, ceases upon the death of the taxpayer (section 36(f)(4)(A)). The 2009 act removes this repayment feature for purchases made between Jan. 1 and Nov. 30, 2009 (section 36(f)(4)(D)(i)).
Section 36 is written to discourage buyers from “flipping” a purchase for profit. The statute includes accelerated recapture provisions requiring repayment of the credit if the home is resold quickly (section 36(f)(2)). The requirement varies between 2008 act and 2009 act purchases.
Taxpayers who sell a 2008 act home or stop using it as their principal residence before the end of the 15-year period must repay the entire remaining unrecaptured balance of the credit in the year in which the sale or change of use occurs (section 36(f)(2)). If the residence is sold to an unrelated party, the adjusted basis of the residence is reduced by the amount of the unrecaptured credit in determining gain or loss on the sale, and the maximum amount of the remaining credit to be recaptured is capped at the amount of gain on the sale (calculated without regard to the section 121 exclusion) (section 36(f)(3)). A related party is a spouse, ancestor or lineal descendant of the taxpayer and certain corporations, partnerships, exempt organizations and trust fiduciaries and beneficiaries (sections 36(c)(5) and 267(b)).
Example 1. Sarah Smith, a single first-time homebuyer with a modified adjusted gross income (MAGI) of $74,000, purchases her principal residence for $125,000 on Nov. 1, 2008. She claims a $7,500 credit on her 2008 tax return. On Feb. 1, 2018, she sells the home to an unrelated party. She has previously repaid eight years at $500 each year = $4,000 total of the credit, and $3,500 of the credit remains to be repaid.
To determine her gain on the sale, she reduces the home’s basis by $3,500. Exactly how much of the $3,500 unrecaptured credit is repaid by Sarah upon the sale of her home depends on her amount of gain realized on the sale, if any. A loss on the sale would mean that Sarah includes none of the $3,500 on her 2018 tax return. A gain of $1,000 on the sale would require a recapture of only $1,000. A gain of $3,500 or more would trigger recapture of the full unpaid credit balance of $3,500.
Despite the lack of a general recapture or repayment provision on 2009 act purchases, a taxpayer may still be subject to accelerated recapture of the credit if the home is sold or ceases to be used as the taxpayer’s principal residence within 36 months of the date of purchase (section 36(f)(4)(D)(ii)).
Example 2. Sam Smith, a single first-time homebuyer with an MAGI of $65,000, purchases his principal residence for $100,000 on Nov. 1, 2009. He claims an $8,000 credit on his 2009 tax return. On Nov. 1, 2010, he sells his home to an unrelated person. Since his sale is 12 months after his purchase, he is subject to accelerated recapture of the credit.
Similar to Sarah in the first example, exactly how much of that $8,000 Sam recaptures depends on his gain upon sale: no gain on the sale produces no recapture. A gain of $8,000 produces full recapture. Note: Unless any of the exclusions of section 121(c) or (d) apply, such as changes in health or employment or unforeseen circumstances, Sam also will not be able to exclude any of this gain under section 121 because he has not owned the home and used it as his principal residence for two out of the previous five years.
These accelerated recapture rules do not apply upon the taxpayer’s death, except that a surviving spouse of a married couple filing jointly will be required to recapture his or her half of the remaining repayment amount. This is also true of regular recapture under the 2008 act (section 36(f)(5)). Another exception is where there is an involuntary or compulsory conversion of the home and the taxpayer acquires a new principal residence within two years of the conversion.
Yet another exception allows a taxpayer to transfer the home to a spouse or former spouse as a result of divorce. In the latter case, the recapture potential is transferred along with the residence to the transferee spouse (section 36(f)(4)).
Note that when accelerated recapture is applicable because a taxpayer ceases to use a home as a principal residence but for whatever reason does not sell it, the section 121 holding period exceptions for exclusion of gain do not exempt repayment of the credit.
Example 3. Sherry Smith, an eligible first-time homebuyer, properly claimed an $8,000 credit on the July 2009 purchase of her new principal residence. In January 2011, she lost her job and moved back home with her parents, renting her residence to defray the mortgage on the home. Since she has not owned and used her residence as her principal residence for 36 months beginning in July 2009, she must recapture in 2011 the entire $8,000 credit previously claimed.
Example 4. Same as Example 3, except that Sherry is transferred by her employer to another state in July 2010. If she does not sell the home in 2010, then she will recapture the full $8,000, as she no longer uses her home as her principal residence upon her move. If she sells, her recapture may be capped at a lower amount, dependent upon her gain upon the sale (if any).
Under section 36(d) before its amendment by the 2009 act, no credit was allowed to certain taxpayers including nonresident aliens and taxpayers acquiring and then disposing of (or ceasing to use as a principal residence) the home in the same tax year. Under the 2009 act, of course, a taxpayer who disposed of the home in the same tax year would be subject to accelerated recapture, since it would be within the three-year period. Section 36(d) also contained a prohibition on the credit (removed by the 2009 act for 2009 purchases) for taxpayers financing their purchases through tax-exempt mortgage revenue bonds. Also, the 2008 act disallowed the credit to taxpayers eligible for the similar, though less generous, credit under IRC § 1400C for first-time homebuyers in the District of Columbia. The 2009 act denies the section 1400C credit to D.C. taxpayers eligible for the more generous section 36 credit (section 1400C(e)(4)).