How the Tax Cuts and Jobs Act Impacts Mortgage Pre-Payment

How the Tax Cuts and Jobs Act Impacts Mortgage Pre-Payment

The Tax Cuts and Jobs Act (TCJA)made some sweeping changes to a wide range of federal income tax provisions. While not every amendment impacts every taxpayer, those related to the deductibility of state and local taxes (SALT) and the mortgage interest deduction could significantly change the analysis residents use when deciding whether to pay off their mortgage early—or even to purchase a home in the first place.

In many markets, especially coastal ones, renting seems a lower-priced option than homeownership when you're only looking at the difference between rental rates versus paying a mortgage, property taxes, and homeowners' insurance. These areas have been able to encourage homeownership by touting federal tax incentives—like the ability to deduct mortgage interest or state and local property taxes—and pointing out the cost savings that can be realized over time.

But the TCJA, which capped the deductibility of SALT at $10,000 and limited mortgage-related deductions to the interest paid on loans under $750,000, may weaken some of these incentives. Homeowners who were previously deducting $15,000 to $20,000 or more in state and local property taxes will see an instant federal tax increase, while those who were paying market interest rates on jumbo mortgages may also feel a squeeze.

Analysts have pointed out that in many markets, particularly the South and Midwest, only homeowners in the highest-priced homes will see an increase in their tax liability. But in coastal California (including Los Angeles, San Diego, and San Francisco), Seattle, and much of the Northeast, where an "average" home can cost well over half a million dollars, these changes will be more widely felt.

Meanwhile, those who were planning to pay off their mortgage early—whether to provide themselves with a paid-off home in retirement or to use the interest deduction to lower their overall tax bill—may find that this decision doesn't carry nearly as much benefit today as it did previously. 

Homeowners (and prospective homeowners) should meet with a tax professional before making any major housing decisions so that they can better analyze the benefits and drawbacks of their prospective plans.