Saturday , 27 May 2017


Mortgage Interest Deductibility Could Be a Fiscal Cliff Casualty – How Would It Affect Your Income?

The mortgage interest deduction — considered by many to be the sacred cow of tax breaks — has joined the list of possible items on the chopping block in the growing debate between President Obama and Congress about the so-called “fiscal cliff”. [Below is research on the merits of such a tax break elimination, the extent of the income tax increases on different income groups, the possible effects on the rate of home ownership, type of houses purchased and house prices in general and their conclusion as to whether or not the elimination of such a tax break would be a sound decision.] Words: 1023

So report the STAFF at http://knowledge.wharton.upenn.edu/ in edited (paraphrased where necessary) excerpts from the original article* entitled Locking Homeowners Out of Their Favorite Deduction: At What Price?

Lorimer Wilson, editor of www.munKNEE.com (Your Key to Making Money!), may have edited the article below to some degree for length and clarity – see Editor’s Note at the bottom of the page for details. This paragraph must be included in any article re-posting to avoid copyright infringement.

The article goes on to say, in part:

…Professors Todd Sinai and James Poterba have…examined consumer finance data to… determine what an elimination of the mortgage interest deduction (MID) would mean for consumers and the housing market. [The Staff of Knowledge@Wharton interviewed Professor Sinai and asked him the following questions regarding their research, findings and conclusions:]

1. Why has the mortgage MID gone from being “untouchable” to being one possible area for cutting in the budget debate?

Sinai: I am not sure it is any less “untouchable” than it was before. Instead, when Congress decides it needs more revenue, the two easiest ways to raise it are to increase tax rates or eliminate exceptions from the tax base, called “tax expenditures.” Tax expenditures are big-ticket items.

The Office of Management and Budget estimates that over the five-year period spanning 2012-2016, the tax revenues foregone by allowing MID will total $609 billion, the second largest tax expenditure (behind not taxing employer-paid medical insurance premiums as income, at $1.07 trillion). If the government needs revenue, it needs to look at these big-ticket items; thus the MID has surfaced in the debate about the fiscal cliff.

Nonetheless, “raising revenues” still means someone has to pay more taxes, so the political difficulty of eliminating the MID remains. [Our research shows that;]

  • tax bills will rise disproportionately in the major metropolitan areas of the Northeast (from Washington, D.C., to Boston), and along the West Coast.

Residents of those metropolitan areas, who have high incomes and expensive houses, have the largest tax savings from the MID and thus stand to lose the most if the deduction is capped or eliminated.

It seems politically difficult to reduce a tax expenditure that benefits a concentrated group of politically important citizens — the residents of these metro areas — but perhaps the fiscal cliff will create the political will to do so. Also, bundling a MID reform with other tax changes that might offset some of the distributional impact, much in the way the Simpson-Bowles Commission had in mind, could perhaps help make a change in the MID more politically palatable.

2. What affect would eliminating the MID have on the average consumer?

Sinai: If it were cut completely, the average household’s annual tax bill would increase by a little more than $1,000. That number masks the real impact, however.

  • Households earning less than $40,000 a year would see their tax bills rise by less than $110 on average — few of those households itemize on their tax returns and thus gain little benefit from the MID, and those that do itemize tend to have relatively inexpensive houses.
  • Households earning between $125,000 and $250,000, by contrast, would stand to lose nearly $2,700 in annual tax savings.
  • Households making more than $250,000 — the ones subject to deduction caps under some tax reform proposals — currently save $5,400 per year on average from the mortgage deduction. [Read: Mortgage Interest Deductibility: An Unfair Subsidy for the Rich]
  • Taxpayers age 65 or above within any of the above income groups typically would face a much smaller tax increase than the average because by the time someone is age 65 or 70, they typically have paid off all, or nearly all, of their mortgage and thus have little interest to deduct. Of course, households could mitigate the tax burden from the elimination of the mortgage interest deduction by using their savings to pay down their mortgages. They would have less mortgage debt, but they also would have less investment income and owe less tax. However, many households are limited in their ability to do this reallocation. Households with a big mortgage typically don’t have a lot of investments that could be used to pay it off.

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3. What effect would an elimination of the MID have on the housing market?

Sinai:

  • For the home ownership rate, probably not much. Most research indicates the MID is not a particularly effective way of getting people to buy houses instead of renting.
  • What the MID is good at is encouraging households to spend more on housing once they decide to buy one.
  • In the absence of the MID, households would buy smaller or less fancy houses, or house prices would fall to partially compensate for home buyers’ having a higher after-tax interest rate. This effect would be largest in those metropolitan areas that currently gain the biggest tax savings from the MID.
  • How much of an impact on existing home prices there would be from eliminating the MID is difficult to determine. The price effects are likely to be larger in the coastal and northeast corridor cities: Not only do they have bigger subsidies, more of the subsidy is capitalized into house prices but just how large is currently an unknown.

4. Is there any upside to eliminating the MID?

Sinai:…Any plan [to reduce the value of the MID] would have to be phased in slowly [with the implementation of] offsetting changes in the tax code to mitigate the risk of an excessive burden falling on any particular set of taxpayers and collateral damage to the overall economy….

[E]ven if it would have been ideal to never have created a MID in the first place, it does not follow that it is a good idea to eliminate or reduce the MID…[now that] it exists.

Changing the MID…[would] likely reduce house prices in at least some vulnerable metropolitan areas, possibly leading to more foreclosures, and certainly damaging the wealth of some older households who are counting on selling their houses to finance retirement….

*http://knowledgetoday.wharton.upenn.edu/2012/11/locking-homeowners-out-of-their-favorite-deduction-at-what-price/

Editor’s Note: The above post may have been edited ([ ]), abridged (…), and reformatted (including the title, some sub-titles and bold/italics emphases) for the sake of clarity and brevity to ensure a fast and easy read. The article’s views and conclusions are unaltered and no personal comments have been included to maintain the integrity of the original article.

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