FEDERAL BAILOUT

NAR hailed a move announced by the Fed, one of the four changes advocated by the national association in a recent Call-to-Action. Under the plan, the U.S. will buy housing-related debts, which NAR says will stabilize mortgage lending and bring rates down perhaps as much as 1 percent.

Bailout includes key tax breaks

WASHINGTON – Oct. 8, 2008 – Many Americans facing higher taxes this year just got a reprieve.

Several popular tax breaks that expired at the end of last year sprang back to life as part of the historic bailout package signed into law by President Bush on Friday. The thick new law will also protect more than 20 million Americans from getting caught in the tangled web of the alternative minimum tax when they file for 2008.

Among the provisions that got a new lease on life are deductions for state and local sales taxes, for higher-education tuition and for the cost of classroom supplies paid for by millions of schoolteachers. The bill also extended a provision allowing many older taxpayers to make tax-free distributions to charities directly from their individual retirement accounts. This provision has helped charities attract large amounts of donations in recent years.

Even if this weren’t an election year, Congress would have faced intense pressure to take action because of growing concern about the health of the economy and financial markets. “Congress was compelled to do this because failing to act would have meant a significant tax increase on middle- and upper-middle-income Americans,” says Clint Stretch, managing principal of tax policy at Deloitte in Washington.

Lawmakers also carved out a few new breaks, including provisions designed to benefit victims of natural disasters that hit numerous states from late May through July. Additionally, the measure prolongs the lives of benefits that had been scheduled to expire at the end of this year. Among them is one allowing taxpayers who don’t itemize their deductions to claim an additional standard deduction for real-estate taxes of as much as $1,000 for joint filers, or $500 for most singles.

Here is a summary of the major provisions affecting individuals, how they work and ideas from tax advisers on how to make maximum use of them.

• Alternative minimum tax. The new law includes increases in the AMT income-exemption amounts for 2008. Under the new law, the AMT income-exemption amounts for this year will be $69,950 for joint filers and $46,200 for individuals, according to a Senate Finance Committee summary. The amounts for 2007 were $66,250 for joint filers and $44,350 for individuals. If Congress hadn’t changed the law, the amounts would have fallen to only $45,000 for joint filers and $33,750 for individuals. The new law also allows the use of certain personal credits against the AMT. “The AMT relief prevents 24 million families from facing an average tax increase of at least $2,000 each,” said Sen. Chuck Grassley, an Iowa Republican.

This temporary solution, or “patch,” merely postpones the fundamental AMT problem into next year. The AMT, whose origins date back to the late 1960s, is an alternative way of calculating your federal income tax. It was created in an effort to prevent a tiny group of high-income people from avoiding tax entirely. The rules for the AMT differ sharply from the regular system. For example, some popular deductions, such as those for state and local taxes, aren’t allowed under the AMT. That’s why some of the people most likely to be affected by the AMT are those who live in high-tax areas, such as New York City, New Jersey and California, and who make between $100,000 and $500,000.

If you’re ensnared by the AMT this year but might not be next year, don’t prepay state and local taxes this year that aren’t due until early next year, says Greg Rosica, tax partner at Ernst & Young in Tampa, Fla. Consider deferring paying bills, such as investment-management fees, that won’t be deductible this year but might be next year.

• State and local taxes. The new legislation revives a provision allowing taxpayers who itemize to deduct their state and local sales taxes, instead of state and local income taxes. This provision has been especially popular in Florida, Texas, Washington and other states that have no state income tax. Congress extended this provision through the end of 2009.

You have a choice on how to calculate the deduction: You can claim the actual amount of sales tax you paid, assuming you kept good records. Or you can deduct the amount shown in tables issued by the Internal Revenue Service – plus sales taxes you paid on certain items such as a car or boat.

If you itemize and live in a place with no state income tax, be sure not to miss this deduction. Studies have shown many eligible taxpayers overlook it. Even if your state has its own income tax, check to see if you would benefit from deducting sales taxes. As long as you itemize, you’re eligible to deduct either sales taxes or state and local income taxes – just not both.

• Tuition and fees deduction. Congress extended through 2009 a provision allowing a special deduction for higher-education tuition and fees. The maximum deduction is $4,000, but not everyone is eligible. How much you can deduct, if anything, depends on your income. About four million federal income-tax returns filed for 2006 claimed the tuition-and-fees deduction.

You can claim this deduction whether or not you itemize. Such provisions are called “above the line” deductions since they appear on the federal income-tax return above the line for adjusted gross income.

• Charitable giving. Congress extended a provision allowing taxpayers 70 1/2 or older to transfer as much as $100,000 a year directly from an IRA to charity without owing income taxes on the money. This transfer is counted toward the taxpayer’s required minimum distribution for the year. “This allows people who have to take mandatory distributions from their IRAs an opportunity to avoid a tax hit while helping out a favorite cause,” says Mark Luscombe, principal tax analyst at CCH, a Wolters Kluwer unit.

Some donors have been holding back on gifts from IRAs. It’s now safe to go ahead for this year and again in 2009. Keep in mind that the amount you transfer isn’t included in your adjusted gross income, or AGI. That’s important since taxpayers lose some itemized deductions and personal-exemption amounts when their AGI exceeds certain levels.

Other changes include:

• Lawmakers extended for three years a provision allowing taxpayers to exclude mortgage-debt forgiveness from taxable income. Usually, this type of debt forgiveness is considered income for tax purposes. Under the old law, this expired after 2009. The new law extends this protection through 2012, according to CCH.

• Congress extended a provision allowing elementary- and secondary-school educators who pay for classroom supplies out of their own pockets to deduct as much as $250 a year. This above-the-line deduction was extended through 2009.

IRS officials sounded pleased – and relieved – by congressional action. IRS Commissioner Doug Shulman said the passage of the AMT and other extensions is “a great outcome for the nation’s taxpayers.”

For bailout to work, housing market needs to mend

NEW YORK – Oct. 6, 2008 – Washington’s financial bailout plan is now law. So the credit spigot will start flowing again, banks will resume lending, and an economic recovery can begin, right?

Wrong. Experts say the most important thing that needs to happen before the $700 billion bailout even has a chance of working: Home prices must stop falling. That would send a signal to banks that the worst has passed and it’s safe to start doling out money again.

The problem is the lending freeze has made getting a mortgage loan tough for everyone except those with sterling credit. That means it will take several months or longer to pare down the glut of houses built when times were good – and those that have come on the market because of soaring foreclosures – before home prices start appreciating.

Housing is a critical component to the U.S. economy and by extension the availability of credit. Roughly one in eight U.S. jobs depends on housing directly or indirectly – from construction workers to bank loan officers to big brokers on Wall Street. A turnaround in housing prices would boost confidence in the wider economy and, experts hope, goad banks into lending again.

“Housing traditionally does lead the economy through a recovery. I think it’s going to be critical for a sustained recovery in this cycle, too,” said Gary Thayer, senior economist at Wachovia Securities.

In the meantime, people like Alicia Elliott are adjusting to a new American reality: Life without credit.

The 21-year old Morgantown, W. Va., resident just bought a used mobile home, borrowing $4,000 from friends and family because she couldn’t get a bank loan.

“I tried to. Couldn’t do it. It’s just hard to get a loan,” said Elliott, who works as a cashier at a Lowe’s Cos. store.

She used to get bombarded with offers for credit cards. Now she can’t even get one. “I get denied one after another after another. It doesn’t matter if you have a co-signer or not,” she said.

Trey Simmons, a 31-year-old barber at a Dallas hair salon, said he worries tighter lending standard will squash his goal of buying a home next year.

“Credit is a privilege everybody can’t get,” Simmons said. “I had credit at a young age and messed up.”

He now operates on a strictly cash basis. “If I don’t have it,” he said, referring to cash, “I don’t spend it.”

The dilemma boils down to a matter of trust.

“Credit, by definition, means trust and faith, and for many reasons trust and faith have been damaged,” said Sung Won Sohn, an economics professor at California State University, Channel Islands.

Sohn said the near certainty of a recession makes it too risky for the thousands of small and medium-sized banks across the country to lend to people like Elliot.

“Banks know the economy is getting worse, so ... they will keep being cautious,” said Sohn, a former banking executive.

Still, the government hopes that by scooping up billions of dollars in bad mortgage debt and other toxic assets, banks eventually can clean up their shaky balance sheets, crack open the vaults and send money washing through the system again.

The rescue plan also raises the federally insured deposit limit from $100,000 to $250,000, a move that could boost banks’ reserves and further grease the lending wheels.

Rep. Barney Frank, D-Mass., the Financial Services Committee chairman and a key negotiator over the past weeks, said the measure was just the beginning of a much larger task Congress will tackle next year: overhauling housing policy and financial regulation in a legislative effort comparable to the New Deal.

In the meantime, the Treasury Department is moving swiftly to get the plan started. Treasury Secretary Henry Paulson said Friday he did not wait for final approval of the measure to begin preparation. He has been lining up outside advisers as his staff works out details on a multitude of complex issues.

But several hurdles could trip up the plan. For starters, even when the Treasury starts buying bad assets, some banks may hoard the cash they receive in return until they see how the plan pans out. That has the potential to make the lending logjam worse, said Vincent R. Reinhart, former director of the Federal Reserve’s monetary affairs division.

“They may sit on the sidelines and wait to see (the bailout) get some traction. The problem is if everybody sits on the sidelines, nobody gets in the game. It’s a risk,” he said.

It also creates a vicious cycle: No trust means no lending; tight credit means it’s harder to buy a home; the more difficult it is to buy or sell a home, the further home prices will fall; and the further prices drop, the more foreclosures there will be.

U.S. home prices – down 20 percent from their peak in July 2006 – still have further to fall, and must hit bottom before demand picks up. The long-awaited bottom in prices could be a year or more away.

But Jim Gillespie, chief executive of Coldwell Banker Real Estate, said he hopes that lower prices, combined with the government’s actions will jump-start stagnant demand. The federal bailout plan, he said, “will give people reassurance that mortgage money is available.”

Jobs are another big concern. The stranglehold on credit has choked companies big and small that depend on regular inflows of borrowed money to pay employees and stay afloat.

The Labor Department said Friday that employers cut 159,000 jobs in September, the fastest pace of losses in more than five years. Experts say that number will grow as the effects of the credit gridlock course through the economy in coming days and weeks.

The nation’s unemployment rate is now 6.1 percent, up from 4.7 percent a year ago. Over the last year, the number of unemployed people has risen by 2.2 million to 9.5 million.

The unemployment rate could rise to as high as 7.5 percent by late 2009, economists predict. If that happens, it would mark the highest since after the 1990-91 recession.

Boosting employment is critical to kick-starting lending because “if jobs are growing, then incomes are growing, and if incomes are growing then people are consuming,” Reinhart said.

Consumers and businesses have retrenched so much that some analysts fear the economy stalled or shrank in the third quarter that ended last week. The Labor Department report Friday showed wage growth for workers is slowing, meaning they’ll be more hard-pressed to spend, especially for something as expensive as a home.

Many economists predict the economy will contract in the final quarter of 2008 and the first quarter of next year. That would meet the classic definition of a recession – two consecutive quarters of a shrinking economy.

One bright spot: optimism hasn’t been totally squashed yet.

Morgan Cavanaugh, proprietor of Moriarty’s Pub in downtown Cleveland, has been trying to sell another bar he owns to ease his workload, but the prospective buyer hasn’t been able to raise the money.

Now that the bailout legislation has the green light, he’s hopeful he’ll get a deal done.

“It passed. Let’s work something out,” Cavanaugh told the man over a cell phone Friday just after the House approved the plan.

He flipped the phone shut and smiled from behind the weathered mahogany bar of his 75-year-old Irish pub.

“He’s going to put the loan request in again. It’s looking up,” Cavanaugh said.

Bailout plan offers vague help to homeowners

WASHINGTON (AP) – Oct. 3, 2008 – The harsh reality for Murielle Montes and hundreds of thousands of homeowners who are behind on their mortgages is this: A $700 billion bailout of the financial industry will probably do little to help them avoid foreclosure.

On Friday, House lawmakers are scheduled to vote on the package, amid intense lobbying from President Bush and industry groups who say the measure is crucial for stabilizing the staggering U.S. economy.

But when it comes to foreclosures, the Treasury Department is only directed to “maximize assistance for homeowners” and write up monthly progress reports.

That’s not enough to help Montes, a 46-year-old nursing assistant, who faces foreclosure on the house she bought in Brockton, Mass., three years ago.

She has been working with a housing counselor to modify her loan since February, but hasn’t had any luck and received a foreclosure notice in August. Meanwhile, the value of her house has sunk from her purchase price of $330,000 to $250,000, she said.

“Where are am I going to sleep? Where are my kids going to go?” asked Montes, who immigrated to the United States from Haiti 20 years ago. The government, she said, “should try to buy the loan out so people can refinance … and everyone can stay in their house.”

But in many cases, the federal government’s hands could be tied – either because the mortgages are pooled into securities sold in pieces to other investors, or because homeowners don’t have the financial resources to stay in the property.

Within 12 to 18 months, roughly 40 percent of U.S. borrowers, or 20 million households, will owe more on their mortgages than their homes are worth, according to Deutsche Bank. The problem will be most severe in California, Nevada, Florida and Arizona, where housing prices soared and reckless lending practices were rampant during the housing boom.

That’s almost the same number of American households that are spending 30 percent or more of their income on housing, according to recent U.S. Census data. With little cash cushion or home equity, the slightest financial problem – an increase in gas prices, medical bills, or car repair – can put a family behind on their mortgage and into the realm of foreclosure.

“Only a small portion of problem loans,” can be saved, said Deutsche Bank analyst Karen Weaver. “It doesn’t always work … In some cases the lender is better off just taking back the property and just selling it.”

As lawmakers debate the massive rescue plan, many consumer advocates are upset that it would benefit the same Wall Street banks that provided funding for the explosion of subprime and other exotic loans, while making only vague promises to assist homeowners.

“It has been very difficult to get (the government) to put together a mandatory, comprehensive, immediate plan to rescue homeowners in the same way that they’ve put together a massive plan to rescue those who got us in this crisis in the first place,” said John Taylor, president of the National Community Reinvestment Coalition, a consumer group in Washington.

Even if the government does push aggressive efforts to modify troubled loans, it could take months to put such a sweeping effort in place.

Still, some housing advocates believe borrowers will have better luck with the government than with private mortgage investors.

“I would expect the government would be an easier entity to negotiate with than the current lenders who are trying at all costs not to take a loss,” said Mossik Hacobian, executive director of Urban Edge Housing Corp. in Boston, which has been trying to help Montes with her mortgage.

The government may well step up pressure on loan servicers – which collect and distribute loan payments – to make changes in loan terms such as reduced interest rates or lowered principal balances, said Credit Suisse analyst Rod Dubitsky.

But while the government would be the largest investor in mortgage securities, “they can’t dictate anything” unless they buy whole loans, instead of slices of mortgage securities, Dubitsky said.

Many in Washington and on Wall Street are hoping the rescue package will make more money available for mortgage lending, lower interest rates and make it easier for borrowers to qualify. This might help put a floor under falling home prices – which are down more than 16 percent nationally from a year ago – and lessen the severity of the economic downturn.

That would be welcome news for Rick Wendell, a 41-year-old electrician in Orlando, Fla. He and his wife are looking to rent out a room in their three-bedroom house. They are struggling to pay their $1,950 mortgage and property taxes because his wife lost her job earlier this year.

The Wendells bought their house 18 months ago for $245,000, but think it has dropped in value by at least $25,000.

“Unfortunately for me, I’m stuck with a house at a high price,” he said. “The people who have already purchased a home are stuck,” he said, noting that a federal bailout “might stimulate the economy, and my wife might be able to find a job.”

Consumer groups say the lending industry was ill-prepared for a sharp rise in foreclosures. And they blast the industry for relying on short-term repayment plans, which aim to help borrowers get back on track after missing a few payments, rather than reducing the principal balance or lowering the interest rate.

The Hope Now alliance, a Bush administration-backed mortgage industry group, said Thursday that the industry has performed some form of workout on 2.3 million loans since July 2007. About one-third of those were permanent modifications.

But on Monday, a group of state banking and law enforcement officials released a report that said nearly 80 percent of borrowers with subprime loans were not on track for assistance to avoid foreclosure as of May.

Paul Koches, general counsel of subprime mortgage servicer Ocwen Financial Corp., said a loan modification benefits both the borrower and the lender because losses on foreclosed homes are running at more than $100,000 per property. “It sure beats the alternative,” Koches said.

Nevertheless, the level of loan modifications varies dramatically in the industry, according to a Credit Suisse report released this week. Among 18 loan servicers, modification rates among subprime loans made since 2005 ranged from under 2 percent to nearly 18 percent as of August, according to the Credit Suisse report. Ocwen Financial had the third-highest level of loan modifications in the Credit Suisse report.

Still, many borrowers continue to have problems, even after a modification.

Roughly one-third of all loans modified in the third quarter of last year re-defaulted within 10 months, the Credit Suisse report said. However, that rate dropped to 15 percent among loans where interest rates were frozen and not allowed to reset at higher levels.