For those of us who are income-tax code challenged (99.78% of the US population) - A tax credit is defined by our friends at Wiki as "recognition of partial payment already made towards taxes due". In other words, The government will allow 1st-time home buyers to keep up to $7500 of income tax they undoubtedly would have paid had they not purchased a home. WOW! That's $625/month, $144.23/week, or $20.60 per day.
Ok - So where's the catch? The tax credit is also......refundable...but not in a good way. Uncle Sam wants his money back. The good news is that he'll kindly take repayment over a 15 year period and with a 0% interest rate. Assuming the full $7500 tax credit, that amounts to a repayment schedule of $500/year or $41.67/month. Not bad. If the house is sold prior to the 15 year period, the remaining balance must be paid on the subsequent tax bill for that calendar year.
So what? With the right strategy in place, that's a HUGE deal. Read On:
STRATEGY 1: A $7500 tax credit can buy more home. How many buyers would love to jump into the housing market but not crazy about what they can buy in their current price range? Let's assume a buyer has a payment comfort level of $1600/month. Assuming a 5% down payment the buyer can afford a home in Menomonee Falls, WI for approximtely $210K (property taxes are $3300). PITI on this home would be $1623 assuming a 6.5% 30 year fixed mortgage.
Hypothetically the prospective home buyer could use the tax credit to increase their monthly housing budget allowance from $1600/month to $2200/month and still be within their comfort range for the 1st year. Remember, the tax credit will effectively put $625/month into their checkbook for the 1st 12 months.
Ok, so we have to be fair here and recognize that the $625 "subsidy" would disappear after 12 months. But there's another huge factor to consider. Assuming the home the buyers earn $70K/year and receives a modest 4% increase to their gross pay each year, they will earn another $3000 which equates to roughly $200/month in net take-home pay.
How much more home would a $200 monthly budget buy? $25,000
So in effect, the tax credit allows the prospective home buyer to purchase $25K more in home NOW and stay within their budget.
STRATEGY 2: A $7500 tax credit can build a much needed safety net. Assuming your buyer does not buy more home, a $7500 tax credit invested in a liquid account with a 6% rate of return will turn into over $14K over 5 years and almost $20K over 10 years!
As usual, I always recommend buyers consult with their tax professional on tax matters, but if handled and planned properly, the provisions of the Housing and Economic Recory ACT of 2008 surely offer a bit of relief, but more importantly it provides all of us in these trying times an opportunity to get in front of more potential buyers with a value proposition to encourage home ownership, which will only serve to kick start this economy.