Is It Time to Roll Back the Mortgage-Interest Deduction?
Original Post Date: November 12, 2010
By: Nick Timiraos
The deficit commission is taking aim at one of the sacred cows of the tax code: the mortgage-interest deduction.
Previous efforts to overhaul the prized deduction have fallen flat, and this one faces an uphill battle, too. But economists are more optimistic because “there is an increasing understanding that single-family housing has been over-subsidized, and that’s to the detriment of the broader economy,” says Mark Zandi, chief economist at Moody’s Analytics.
Under one proposal, filers could deduct interest paid on mortgage debt of up to $500,000, down from the current ceiling of $1 million. The deduction wouldn’t apply anymore for interest paid on home-equity borrowings (currently allowed for debt up to $100,000) or on mortgages for vacation homes.
The mortgage-interest deduction is the largest single subsidy for housing and one of the largest deductions in the U.S. tax code. It’s projected to reduce tax revenue by $131 billion in 2012, according to White House estimates.
Many economists have long argued that the deduction doesn’t actually have a significant impact on homeownership and that it instead encourages wealthier borrowers to take on more debt. That’s because the deduction is only available to people who itemize deductions on their tax returns, and low-income borrowers often fare better by taking the standard deduction.
Around 70% of the benefits from mortgage-interest and property-tax deductions go to the top 20% of taxpayers in terms of income, according to the Urban-Brookings Tax Policy Center.
Certain aspects of the deduction move in the opposite direction from “long-run sustainable homeownership,” says Thomas Lawler, a housing economist in Leesburg, Va., because borrowers that take equity out of their homes can receive a bigger deduction.
Around seven in ten homeowners with a mortgage claim the credit, and nearly 1.2 million borrowers would see their taxes rise if the upper limit of the deduction was lowered to $400,000, according to 2007 estimates from the Congressional Budget Office.
The real-estate industry is ready to fend off the latest assault with a strong defense: they say that removing government support for housing will put pressure on prices at a time when the housing market can ill afford it. The industry is preparing to defend against efforts to roll back not only tax preferences but also mortgage subsidies that will be up for debate next year when the White House considers how to revamp Fannie Mae and Freddie Mac.
Losing the mortgage-interest deduction entirely “will surely put us in a broader economic recession,” said Lawrence Yun, chief economist at the National Association of Realtors, at the trade group’s convention last week.
Capping the mortgage-interest deduction limit at $500,000 could also have an outsized effect on coastal and other high-cost housing markets, while vacation home communities could be vulnerable if the deduction is stripped for second homes, said Robert Dietz, tax economist for the National Association of Home Builders.
Mr. Zandi says any proposal could be phased in over time to avoid disrupting depressed housing markets. He says the real-estate industry should embrace the proposal because it stands to lose the most if the deficit isn’t addressed and interest rates rise. “This is in their interest, and they should lead the way,” he says.
Readers, what do you think—is it time to roll back the mortgage-interest deduction?