As part of the attempt to reduce deficit spending, the leaders of a White House deficit reduction commission had recommended scaling back the mortgage interest deduction.
The proposals did not win the endorsement of the full commission — 11 members of the 18-member commission accepted the report, which is three votes shy of what was needed to bring the proposal to a vote by Congress. The National Association of Realtors aggressively opposed the proposals, and vowed to fight any proposal that diminished the deductibility of mortgage interest.
But some of the proposals considered by the commission could return in federal legislation. And Congress may weigh whether tinkering with the popular tax break for homeowners would assist an ailing economy, or whether it’s best not to mess with one of real estate’s most sacred cows.
It has been reported that every April 15, about 40 million Americans claim the mortgage interest tax deduction. The Congress’ Joint Committee on Taxation estimates that "between 2009 and 2013, this deduction will allow about $600 billion in potential tax revenue to stay in homeowners’ bank accounts instead of going to the Treasury. In 2009, the tax break was worth over $80 billion to homeowners, about 2 percent of all federal spending," according to HSH.com.
1. The argument for maintaining the mortgage interest tax deduction
For decades, the federal government has encouraged homeownership by partially underwriting the cost through the mortgage interest deduction. The mortgage deduction provides an incentive for renters to become homeowners. In fact, one of the most persuasive arguments for renters to stop renting is the deductibility of mortgage interest. "The government actually pays part of your mortgage."
The deductibility also allows buyers to purchase a more expensive home than they could without the deduction.
The argument in favor of maintaining the deduction is that without it, there will be fewer qualified buyers. Those who do qualify will have to make more money to enter the first-time buyer market. Reducing the size of the buyer pool could trigger another plunge in prices, resulting in even more foreclosures.
Making matters worse, many homeowners who purchased under the current rules rely on their mortgage interest deduction to reduce their taxes. A substantial proportion are just scraping buy. Killing this deduction could trigger a tsunami of new foreclosures. Another increase in foreclosures could result in decreased liquidity and more bank failures.
2. The other side of the coin
The reason that eliminating the mortgage deduction may not have that much impact is that many people cannot claim it. Some of the exclusions are listed below:
Approximately 65 percent of the population owns their primary residence. This means that approximately 35 percent of the population is renting.
Of the 65 percent who own property, an estimated 35 percent own their property free and clear (22.7 percent of the entire population). No mortgage means no mortgage deduction.
Also, experts estimate that another 33 percent of all homeowners (21.5 percent of the entire population) take the standard deduction rather than itemizing. This is due to the fact that they don’t have enough total expenses and/or income to merit itemizing their expenses.
Mortgage amounts in excess of $1 million and home improvement loans over $100,000 are also not deductible.
3. Alternative Minimum Tax
Without a revision by Congress, current estimates are that 35 percent of the population would have to file taxes using the Alternative Minimum Tax (AMT) provisions.
Even for the 40 million who claim the mortgage interest deduction, many would be caught under the AMT provisions. For AMT purposes, home mortgage interest is only deductible if the loan was used to buy, build or improve a home.
What’s fascinating is that in England, Australia and New Zealand, homeownership rates are very similar to those in the U.S., yet none of these countries has a mortgage interest deduction.
There’s absolutely no question that NAR and a host of other organizations will put every possible effort into defending this deduction. The proponents of the deduction argue that anything that reduces the rate of homeownership hurts the economy and destabilizes neighborhoods.
On the other hand, given the numbers from other countries, perhaps the deduction really doesn’t have much effect on homeownership rates. The question is: Given the current economic climate, are we willing to take the risk?
