Sunday, August 17, 2008

Wingin' it at the IRS

(Tanta @ Calculated Risk) I have had occasion before now to compliment Michelle Singletary's personal finance column, The Color of Money, in the Washington Post. I don't read a lot of "personal finance" stuff because, frankly, most of it is drivel. But even in a better field of competition, I think Singletary's work would stand out as a combination of no-nonsense advice and original reporting.

Today she takes on the subject of the new $7,500 tax credit for first-time homebuyers. What started out as an attempt to explain the tax credit to potential homebuyers ends up being an interesting report on the extent to which the IRS has no particular plan at this point for managing this thing.

Since this is a loan from the IRS, will the IRS be sending an annual loan statement to taxpayers?

The details of how the IRS will collect this money or inform people have not been worked out. Smith said a line would probably be added to the standard 1040 tax form to indicate that the credit should be paid as part of your tax liability.

Can I pay off the loan early?

The IRS hasn't yet come up with a system to accommodate an early payoff. . . .

Will this be a debt that has to be settled at closing if you sell the house?

This debt isn't tied to your home but rather to you as a taxpayer. The outstanding loan will probably not be required to be paid at the closing table, Smith said. . . .

If there is not a lien on the property, how will a settlement company know the debt is due when a homeowner sells?

It probably will be up to the homeowners to inform the IRS that a sale has occurred and that they need to pay off the loan balance, Smith said.

It's this last answer that I see as an oversight nightmare for the IRS.

Let's say a homeowner sells and realizes a $7,000 profit. However, he or she still has $6,000 left on the first-time home buyer loan. This means the homeowner will have to set aside the bulk of that gain -- $6,000 -- from the sale to satisfy the tax debt, which would be due in the tax year of the sale.

If the person isn't financially disciplined and spends the money, he or she could end up with a hefty tax liability.

"We have to look at all the issues involved with this credit and figure out the best controls," Smith said.

No kidding.
I don't exactly expect any elaborate bureaucracy like the IRS to have all its operational and procedural ducks in a row within a couple of days of the passage of this kind of "stimulus" legislation, which by definition can't exactly wait for all the details to be ironed out before passage (or it is too late to "stimulate" the market). On the other hand, the work eventually has to get done, unless the IRS is willing to promise to not penalize people who don't handle this correctly. You can't exactly make it difficult for people to know when and how much to pay you and then turn around and slap them with penalties and fines if they don't follow the rules. The IRS can tell itself it's got years to figure this out, since the first installments won't be due until the 2010 tax year for people buying this year. But that inability to handle prepayments on sale of the property is going to mess that plan up.

If we had a dime, of course, for every story we've read lately that tells us that your average first-time homebuyer either doesn't read mortgage documents or manages to understand approximately every tenth word of them, including "the" and "and," we would be rich enough to fund a study comparing the relative comprehension on the part of the public of mortgage documents versus the tax code. If we had another dime for every story we've read about mortgage servicers making it difficult for people to prepay loans, refusing to provide clear payoff statements, fouling up servicing transfers and proofs of claim and generally making it an insurmountable challenge for people to know what they actually owe and where to send the damned payment, we would also be rich enough to buy the IRS a loan servicing platform it could manage not to use correctly, just like everyone else.

But no one is handing out dimes, so we will just have to send the IRS a cheap homemade housewarming present: a little note welcoming it to the neighborhood, Love, The Mortgage Industry.

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