New Home Buyer Tax Credit Equals Government Subsidy
I’d like to comment on the Baltimore Sun's Jamie Smith Hopkins blog post on the new buyer tax credit.
Subsidizing housing now will only make the situation that much worse once the subsidy is removed. The subsidy given the new buyer, the new home buyer now actually pays the same amount of money for the home with or without the subsidy; it is the seller of the home to the new home buyer who receives the benefit from the tax credit. Even though the credit goes to the home buyer, the subsidy would be priced into supply equation.
If a home on the market was not selling, the seller would probably cut the price. The tax credit to the buyer is literally a cut in the price, but the only difference is it merely transfers the liability from the home seller to the government. As a home buyer you may think you are really getting a credit back, but it is like saying your getting free zero % financing on a new car. It is never free, it is priced in somewhere. The same goes for anything that appears free; free shipping, free gift wrapping, free maintenance, etc...
Now back on topic, once the subsidy is removed for the new home buyer, the price of homes will literally be worth less equal to the value of the former subsidy. So the new home buyer who got a credit for buying a home will now be the bag holder for the credit since their home will be worth less without the subsidy.
The same thing can happen with interest rates. Think of low interest rates also as a subsidy. Once the subsidy is removed, the homes will be worth less.
The problem with subsidies is they create artificial demand for a product which causes producers (in this case home builders) to produce more supply than would be needed without the artificial demand. This causes over supply and will cause prices to decline. Does any of this sound familiar in recent history? The last few years we had a housing boom fuel by cheap and easy credit, aka as a subsidy. This created artificial demand and home builders not only built more homes than needed (excess supply), but also in locations that didn't make sense, especially in places where build-able land was restricted.
If you’d like a free simple lesson in economics, might I suggest reading Economics in One Lesson by Henry Hazlitt. You can read it for free online (click here for free online book).
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7 comments:
He is right, ask anyone in the trying to sell a house right now what happens when financing incentives are not available.
This is not going to get me to jump because we are in an extreme buyers market where the sellers need to bow down to the buyer if they want to sell.
A tax credit of $7500 only lowers my taxes by $2100. When you consider this gimmick it is not all it is cracked up to be the choice is clear. Besides why should you buy when we all know 2009 is going to be the worst year financially for most everyone alive today. With all the current and coming layoffs (and this time it is in the 28-38% tax bracket of white collar jobs) it's better to be "mobile" in case something happens and you need to take a job in another region.
The biggest reason housing boomed was 100% financing. This is gone and not coming back. We already had a lost decade with stagnant wages. We are going to have more than that in static property values.
This was like a 10-20% subsidy that made it possible to not have to save up for a down payment.
Same issue with interest rates. Everyone is saying it is the best time to buy because interest rates are down below 5%. The opposite is actually true. This is absolutely worst time as prices are still declining and will continue to decline for the next 2-3 years.
It's better to buy when interest rates are high as prices have to adjust down to meet it. I know this is against everything you read from the REALTORS or the MSM but ask anyone buying or selling in 1980 and they will understand where I am going with this. You can refi a 12% loan in the future and get a lower payment. You can't refi a 4% loan because the appreciation gets evaporated as interest rates rise.
via Patrick.net:
It's a terrible time to buy when interest rates are low, like now. Realtors just lie outright about this fundamental fact. Prices fall as interest rates rise. Since interest rates have nowhere to go but up, you can be certain that prices will fall more. The way to win the game is to have cash on hand to buy outright at a low price when others cannot afford to pay very much because of high interest rates. To buy at a time of very low interest rates is a mistake.
When rates go from 5% to 7%, that's a 40% increase in the amount of interest a buyer has to pay. House prices must drop proportionately to compensate. The housing bust still has a very long way to go.
For example, if interest rates are 5%, then $1000 per month ($12,000 per year) pays for an interest-only loan of $240,000. If interest rates rise to 7%, then that same $1000 per month pays for an interest-only loan of only $171,428.
For the record: it is a *credit*, not a deduction, so it should lower one's taxes by the smaller of $7500 or one's total tax bill, not a fraction of that ($2100). Other than that, I agree with you.
I definitely agree with this post, I think that subsidies right now are really not a good idea. I recently bought a new home and I am not going to do anything new right now. I bought it through a company called Taylor Morrison and they were great, here;s a link if anyone wants to check them out: http://snurl.com/9ht46
Good point Anon - a credit of $7,500 means your taxes are reduced by $7500. Adam here is confusing a credit with a deduction.
Kevin and Adam, please keep posting every so often. I still come to this blog for reassurance that i'm doing the right thing by not buying now. - shireen
Having just purchased a house, I hope it is retroactive.
I thought you guys were off the air?
BTW, google, or someone, finally killed Nikki's blog. Sniff. Sniff.
Any chance of you guys weighing in with a quarterly post? I'd love your observations on the current Baltimore area market.
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