Tuesday, April 20, 2010

Mortgage Interest Rate Deducion

Dennis the Peasant:
Look at each of the so-called five tax breaks listed above. Each one of them furthers an obvious (or at least obvious to the informed) public policy objective. In the case of the deduction for mortgage interest, the public policy objective was simple; legislators were of the opinion that home ownership by the citizenry was a Good Thing. Those same legislators understood that one way to help citizens become home owners was to lower the cost of the purchase of the home... hence, the mortgage interest deduction.

FLG has long been in favor of abolishing the Mortgage Interest Deduction for the following reason:
The goal of the deduction was to encourage new home buyers. However, all it does is make people buy bigger houses. It tips very, very few people over the buy-don't buy threshold.

That being said, now that FLG is a homeowner, he takes that deduction for all it's worth, but he still thinks it should be eliminated.

3 comments:

Andrew Stevens said...

There's a reason it wasn't eliminated when other interest deductions were eliminated. (Prior to Reagan's tax reform, you could deduct interest that you paid on your credit cards.) Eliminating it would not only dramatically raise taxes on homeowners, but slash home prices overnight. So you have to phase it out gradually, probably over the course of a couple of decades. There is currently a cap on how much you can take, only up to $1 million. One obvious way to phase in the deduction is to gradually lower that cap until you reduce it to zero.

Keep in mind that landlords would still be able to deduct mortgage interest as a business expense, so you are tilting the field toward renters. This doesn't necessarily make it a bad idea to eliminate the deduction, but it's something to keep in mind.

FLG said...

Andrew:

I wasn't arguing that we should just turn it off next year. A gradual phase out is the only way.

I hadn't really given much thought to the business expense aspect, but business have that benefit on all costs really. They can write off most of their expenses before taxes now.

The question really is if the tax break turns more people into homeowners, which I don't believe it does. It just leads to bigger homes. Therefore, it isn't fulfilling its intended purpose and ought to be eliminated, over time of course.

Andrew Stevens said...

Don't get me wrong; I agree with you. I too am in favor of a (very) gradual phase-out. However, it was not the original purpose of the mortgage interest exemption to encourage home ownership. Originally, all interest was tax-deductible - credit cards, mortgages, personal loans, you name it. Mortgage interest has been deductible since the income tax was created and it certainly wasn't created to encourage home ownership.

When the deductibility of most forms of interest was taken away in 1986, it is possible that encouraging home ownership was the reason home mortgage interest was retained. It may also have been retained because otherwise housing prices would have crashed. It may also have been retained as a sop to the real estate industry. But, for once, there's a very good reason why a government program isn't meeting its intended purpose since that was never its intended purpose. I agree that "encouraging home ownership" has been used frequently as a post hoc justification for keeping it in the tax code, but nobody ever sat down and said, "We need to encourage home ownership. Let's give a mortgage interest tax deduction."

 
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