Don't get surprised by this property-tax rule
Maryland caps annual property-tax increases for people who live in their homes. But there's an exception for sizable home improvements -- and you really don't want to find out about it after you're on the hook.
Normally, the state's Homestead tax credit kicks in once you hit your second July 1 in your property. That means your property-tax bill can increase only up to a certain amount every year -- 4 percent in Baltimore and Baltimore County, for instance. (Full list here.)
But if you've made more than $100,000 in improvements to the property, the Homestead cap doesn't shield you from the taxman. Even if you didn't make the improvements yourself but instead bought a recently spiffed-up home that the state hasn't already reassessed, you could end up with a sizable tax hike a few years down the road.
That's the sort of thing you want to budget for. Here's how the exception works:
The $100,000 threshold has been in place since 2009, when it was increased from $50,000. New appliances, interior decorating and the like doesn't count: "We look at the cost of constructing those things for which one needs the building permit," says Robert Young, acting deputy director of the state Department of Assessments and Taxation.
So, let's say your Baltimore home is assessed at $90,000 and you add $110,000 in improvements. When the state picks up on that change, it reassesses your home at $200,000.
You get to keep the Homestead credit you amassed on the original portion of your home, but you don't get it for the new stuff. That means a big increase in your tax bill, rather than a 4 percent rise.
If the city forwards copies of your building permits to the state assessors, they'll come out and revalue your property then. Otherwise, they probably won't account for the change until they're in the neighborhood for the once-every-three-years reassessment that each home gets.
There's some phase-in of the extra value assigned to the home-improvement work, but it's done in such a way that there's not likely to be much difference between the full value and what you're taxed on in the first year.
"The bottom line is that if you add more than $100,000 in new improvements to an existing property, then you are going to end paying taxes on most of that new improvement value because you receive a new base assessment," Young said.
His advice: If you're going to do big home improvements, calculate the tax impact first and make sure you can swing it. "If you’re adding $100,000 of extra value, then figure on a couple thousand dollars extra in city taxes," he said. (You can find the various local tax rates here, with a Wonk post about them here.)
What about if you're thinking of buying a recently improved home? Do some legwork before signing on the dotted line. Look at the assessed value. Is it a lot lower than your expected purchase price? It's a good bet that the state hasn't accounted for the new construction yet.
If you have any reason to doubt, you can call the local office for the state Department of Assessment and Taxation and ask if staffers there have sent out a new construction notice on the property. If not, count on a higher tax bill than the current assessment would suggest.
"Even when you're buying a home now, when the market prices are declining, you really need to see, what's my actual tax bill going to be?" Young said.
One city homeowner who bought a rehabbed home in 2006 says she could no longer afford her mortgage payments once the assessment was adjusted and her taxes spiked. Wonk reader MCG was similarly surprised by a big jump in his taxes, though fortunately he did not end up in foreclosure as the other resident did.
"Nobody told us at closing -- my Realtor didn't tell me, 'Oh yeah, they can reassess your property based on the value of the improvements,'" MCG said. "It put a dent in my budget. I was able to handle it, but I could understand how somebody could end up being foreclosed in that situation."
So please pass on the word to people in the market to buy or to do big home improvements. Always good to be forewarned so you can plan accordingly.
While we're at it: Remember that Baltimore has several tax credits, good for five years, that you might be eligible for if you improved your home or bought a newly rehabbed (or constructed) place. Links here:
UPDATE: Wonk reader Cory reminded me that people renovating homes in historic districts can be eligible for tax credits, too. Here's Baltimore-centric information.