Wealthy Homeowners Brace for 'Mansion Cliff'
Realtors to the rich have started getting a strange new kind of phone call.
Wealthy homeowners with properties for sale are suddenly demanding that the brokers get them a deal in the next five months. The reason, they say, is the fiscal cliff.
If the Bush tax cuts expire and capital-gains tax rates go up on January 1, sellers in the high-end real-estate market could owe millions more in taxes on their sales. As a result, many wealthy sellers are racing to close before 2013. Others who were thinking of putting their homes on the market next year or later are listing them this summer.
Call it “The Mansion Cliff.” Real-estate experts say that as more of the wealthy sell out of fear of a tax increase, they could drive up inventory and lower prices in the top of the real estate market, which has been one of the few bright spots in the economy. Any softening at the high end, or a spike in inventory, could ripple through the housing market and add new pressure to prices, although it could also increase sales volume.
“This has become a key issue for sellers,” said Stephen Games of Pacific Sotheby’s Realty in San Diego. “Sellers want to get a deal done before the election. They want to avoid the uncertainty.”
Games said that one of his clients recently sold a $13 million ocean-view property in La Jolla, Calif. for less than the original asking price – in large part to avoid the possible increase in taxes next year. The tax savings from the deal was more than $600,000 compared to the potentially higher bill next year.
Jorge Uribe, one of the top luxury brokers in Miami, recently sold a mansion in the posh enclave of Indian Creek for $38 million. He said the owner accepted a price below his original goal for fear of the tax cliff.
“It was certainly a factor in his decision,” Uribe said. “When you’re talking about $38 million, that’s a big difference in tax savings. The tax issue was definitely a motivator in his decision to take a little less than he wanted.”
One New York broker said she got two new listings in the past week that were driven in part by tax fears.
“The sellers were on the fence on whether to sell, but when they considered the cliff, they decided to list,” the broker said. “They want to do this quickly. The message to me is, 'Get this done now.'”
Granted, the tax fears of the mansion-set may prove to be unfounded. Capital-gains rates could remain unchanged if a deal gets done in Washington. And the selling deliberations of the wealthy are a minor problem compared to the broader headwinds in the economy.
What's more, the rich (especially foreigners) continue to buy real estate as an investment as stocks and other financial investments weaken.
Yet the million-plus real-estate market experienced a similar spasm in 2010, when many of the wealthy feared Congress would raise capital-gains rates. Inventory popped up and and prices slumped.
Jonathan Miller, of Miller Samuel, the New York appraisal and consulting firm, said that in the fourth quarter of 2010, the supply of homes priced at $1 million or more increased in the New York area. In the affluent Hamptons, inventory increased 5 percent in the fourth quarter, a much greater increase than the same period a year earlier.
Miller said a similar or even larger increase is likely this year.
“I’m confident we’ll see just as much or more this time because of the fiscal cliff,” he said. “People are going to be pressing to close earlier than they might have.”
The math of the mansion cliff is compelling. If the Bush tax cuts are allowed to expire, the current capital-gains tax of 15 percent will rise to 20 percent. Alan Kufeld, a principal with accounting firm Rothstein Kass and an advisor to wealthy families, explains that families who sell a second home that they’ve owned for more than a year pay capital-gains taxes on the difference between the sale price and their original purchase price (minus certain fees, improvements and other deductions).
A $38 million home purchased for $8 million with $2 million in improvements could show a gain of about $28 million. The current federal tax bill on that gain would be around $4 million. If taxes go up next year, the tax would be $5.5 million – a difference of $1.5 million.
The new federal health-care tax of 3.8 percent also kicks in next year for couples who make $250,000 or more. But for the $28 million gain described above, the tax could add another $1 million, bringing the total tax difference to $2.5 million.
On primary residences, where owners have lived for more than two out of five years, there is a $500,000 exlusion. But brokers say that when a home is priced at $10 million or $20 million, the exemption is less of a factor.
In addition to the federal tax, there will also be state and local taxes applied to the gains. Some of those tax rates are also expected to go up in some states next year.
Kufeld aid his clients aren’t making long-term real estate decisions based on short-term tax issues. And the deals have to fit into a family's broader planning. But he said that since the potential tax savings are significant, “families are certainly having discussions about it. And they should.”
-By CNBC's Robert Frank
Follow Robert Frank on Twitter: @robtfrank