This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
We've been talking a lot today about a conservative class war. Matt Continetti wrote about Ross Douthat's column; Peter added an infuriating example.
Over at the Corner, Andrew Stuttaford responds to Ross this way:
To start with, Ross appears to favor sharply scaling back the mortgage-interest tax deduction, an unattractive notion at most times and particularly so in an era of sharply increasing marginal tax rates. It's also an idea that apparently takes no account of what such a change could mean to already-ruined real-estate values.
Now, it is true that if we turn to the Conservative Lives of the Saints, we will find that, in a process that began under Thatcher, Britain's Tories phased out the mortgage-interest tax relief. However, that was at a time of falling marginal tax rates. Moreover, the size of the tax relief available at the time was, to start with, relatively modest. In addition, in the U.K., capital gains on the sale of a principal primary residence were (and remain, as they are in Germany, Canada, and many, many other countries) entirely tax-free, a sensible policy that encourages both saving and affordable home ownership. It should be adopted here.
And then Ramesh counters with this:
Andrew, I have no problem with eliminating the capital-gains tax on home sales (or on other asset sales). But I do not think that propping up housing values is a sensible policy, even now, and I don’t think that a gradual reduction in the mortgage-interest deduction would have a ruinous effect on housing values anyway. The case for scaling back the deduction doesn’t grow weaker as marginal tax rates increase; it gets stronger, because the distortionary effect of the deduction is greater as those rates increase. (The case for scaling back the deduction and reducing the rate simultaneously grows much stronger.)
I have to admit, there's something not quite fair about the mortgage-interest deduction. Why, exactly, do we need to subsidize mortgage interest again? Doesn't that just inflate home prices? I know it did where I live, in Southern California. We need fewer interventions in the home value market, not more.
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May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
Rob, I have thought the mortgage interest deduction was wrong for most of my adult life. For exactly the reasons you (and the others) put forth. Thank you for validating me.
May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
Yes, I agree, and as someone who is probably going to buy a home sometime in the next decade it's against my interest to say so. As a general rule, I want markets to work without being distorted by government unless there is an enormously compelling reason for interference.
It should phase out gradually so people who counted on the deduction don't get screwed, and I don't have any problem with changing other taxes so overall rates don't rise, but the current crisis is do in part to flawed incentives around housing, and this seems like as good a time as any to stop redistributing money from renters to home buyers.
Also, a question. Do you get to deduct the mortgage interest on second homess and vacation homes?
May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
It's the right thing to do, but now's the wrong time to do it. It should have been done 5-10 years ago during the Bush term and before the real estate bubble got so big-- it would have helped curb some of the misplaced enthusiasm for real estate and softened the downturn we are now suffering.
Removing the deduction now would only compound the damage at this point.
May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
In principle I'd favor a simplified tax system, including cutting the mortgage interest deduction - all other things being equal, lower taxes and fewer deductions makes sense. But, what about those of us ("those of us," in this case, meaning "me") who made a calculated decision to buy instead of continued renting with the understanding that mortgage interest is tax-deductible?
Eventually someone - a lot of someones, really - will have to pay the fiddler for leftism and compassionate conservatism, and given that I'm 27 it's probably going to be me. This is the sort of thing that makes me think, "forget investing and capital gains tax, I'm going to buy a motorcycle."
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
In a theoretical world, we should eliminate both the mortgage tax credit and capital-gains simultaneously. But we all know that will NEVER happen. So for now can we still live in the real world. I need the tax break.
May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
Jason Hart: ... But, what about those of us ("those of us," in this case, meaning "me") who made a calculated decision to buy instead of continued renting with the understanding that mortgage interest is tax-deductible?...
This is a big problem--because at this point that deduction is so taken for granted, so part of the air we breath, that eliminating it will itself be a pretty radical "intervention in the home value market," which Rob rightly wants to reduce. As Conor says, it must be gradual--bigtime gradual, I'd say--especially at a time like this. And by "bigtime gradual" I mean "imperceptible for the next seven years"--which is the number of years left on my home loan.
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
I hear you, Denise. And I also get from Conor and Jason that it's sort of the wrong time to do this. But isn't it possible to phase it out? I guess this is why Obama's Debt Commission is so worrisome to me. These kinds of commissions are organized to help politicians avoid doing anything really useful -- it's always about providing cover for raising taxes just enough to keep things going along, never anything bold.
May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
I'm a fan of the FairTax: Replace ALL taxes with a simple, flat national sales tax rate. Don't knock it until you really understand it.
May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
I have a coworker in Canada, where they do not get to deduct interest and cannot get an interest rate fixed for longer than five years. He paid for his house in about ten years. He has no mortgage payment. He recently paid cash for a car and a fairly nice piano in the same weekend, and he followed that up with a trip to Disney World. That all said, he had ten hard years of limiting all other expenses.
There is no reason Americans cannot do the same thing, but our incentives are totally sideways when it comes to carrying debt. My advice is get a 15 year fixed rate mortgage, put 20% down, and every time you think about buying a motorcycle, double down on your mortgage payment. In ten or fifteen years, you own a home and can pay cash for a couple of motorcycles.
This is not the track I am on, but modifying our tax structure incentives to promote less debt is wise.
May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
The solution is relatively simple.
1) Immediately eliminate the deduction on second homes (this was added by Congress to cover their District and Washington places)
2) Allow full deductibility up to 80% (based on 20% down payment) of the national median home price, reduce deductibility of the remainder by 25% for each price quartile above the median.
3) You pay what you originally mortgaged until you re-mortgage, new financing is at the current deductibility rate
4) Reduce by 5% per year until it is gone.
May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
I'm not precisely opposed to eliminating the mortgage-interest deduction, but this is a horrible time to make a move like that. Consider:
The housing market is already tremendously weak. This wouldn't help.
Banks are still absorbing repossessions and this could trigger yet another wave. I know people who are in default on their mortgages whose banks are ignoring them. The banks don't want more houses.
Americans are already facing a big tax increase. If congress doesn't extend the "Bush" tax cuts, we're already facing a giant tax hike next year that is going to hit a lot of us. Do we want to compound that by ripping more money out of citizens' pockets?
There are some good philosophical reasons for killing off the mortgage interest deduction, but I don't see any good practical arguments for it right now.
As Denise said: "So for now can we still live in the real world. I need the tax break." So do the millions of tax-paying home owners. We need to see our gov't worry less about increasing revenues and more about lowering their expenditures.
May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
At the risk of giving "I wouldn't start from here" travel directions, the UK experience was of capping mortgage interest relief at the level of a modest starter mortgage of a few years previously (£30,000). This happened during a period of fairly intense house price inflation, which had the effect of rapidly diluting the capped relief. A few years later the cap could be reduced to £20,000, and then gradually further and further until the relief was eliminated altogether without anyone feeling the pinch particularly.
The last time I lived in the Netherlands, by contrast (1996-99), mortgage interest could be fully offset against tax. But at that stage, the interaction between tax breaks and investment returns was so complex that I couldn't get my head around it (accounts seemed to pay no interest, but the tax breaks created a "real" return). I would be intrigued to see how things have changed in the last decade.
May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
Couldn't agree more. In my opinion, if we want real tax reform, in whatever form that takes, we need to eliminate payroll withholding (thank you Milton Friedman). I bet most people don't know the actual amount they pay in taxes just to the federal government each year. I'm not talking about the refund or payment they make on April 15th but the entire amount of taxes through payroll withholding, FICA, etc.
I think if all Americans had to write a check (if anyone uses checks anymore) for the full amount of taxes they owed every year, they'd get religion about tax reform really quick (Mr. Friedman did, at least with respect to payroll withholding). The problem is payroll withholding tricks people into not missing their money.
I'm not crazy enough to think it would actually happen, but it would be a start.
May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
As usual I am late to the conversation, I doubt the Fair Tax will ever happen but I am a huge supporter: "The FairTax plan is a comprehensive proposal that replaces all federal income and payroll based taxes with an integrated approach including a progressive national retail sales tax, a prebate to ensure no American pays federal taxes on spending up to the poverty level, dollar-for-dollar federal revenue neutrality, and, through companion legislation, the repeal of the 16th Amendment.
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
It's tough, Rob. Once you turn to tax policy to shape and manipulate public behavior, these kinds of angst-ridden choices grow inevitable. Eliminating the mortgage-interest deduction sounds horrible because there are so many taxes that redistribute income that any tax relief at all seems like a necessary compensation. "Well, at least I can keep some of my money if only I spend it this way." And somehow it always seems easier to roll back behavior-modifying tax credits or deductions than behavior-modifying, income-redistributing taxes...
May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
All of the flat tax and sales tax proposals are DOA, no matter how theoretiaclly nice they look, and such discussions are a waste of time. Both are reasonable ideas. Like it or not, at some point you will get the sales tax, except that it (VAT) will be layered on top of every other bad tax- and hidden in most prices- rather than be an open reminder of how nthe government is taking your money.
"Fair tax" will always, in practice, start to exempt some things, using the "fairness" rationale, or the desire to "nudge" behaviors. And you will find the fed collectors at every garage sale in roughly two nanoseconds.
Sorry, there are no magic bullets that are going to resolve this, Huckabee notwithstanding. As long as politicians are alive they will start tweaking at the edges of any revenue scheme and selling favors to influential people. The only solution is to rotate the power-brokers and be eternally vigilant about exposing every single scam. Elect good people. And that's hard work.
May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
How about eliminating deductibility of interest on all new mortgages issued after a certain date? We are already contemplated changes to everything from pensions to social security based on lower benefits or higher required contributions from new entrants. It would be inequitable in the short term, but more politically palatable than a sudden, across-the-board change.
The effect of this change on home prices would be immediate, but those already in their homes would not see a reduction in net income. There would be a distorting effect on the housing market due to the incentives for people to stay in existing homes, but this would actually have the effect of reducing inventory and helping offset drops in prices due to the loss of deductibility. It would also depress the mortgage refi market, but hey, that's a distorted market anyway, due to state mandates against prepayment penalties.
We in California are used to distortions in home buying patterns due to Proposition 13, so this sort of grandfathering doesn't seem to radical to me. Also, the nature of mortgages is such that the distortions and inequities would gradually work their way out of the system.
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
James Poulos, Ed.
Once you turn to tax policy to shape and manipulate public behavior, these kinds of angst-ridden choices grow inevitable.
True enough. And yet, I can dream, can't I? There's something unseemly about making citizens grasp onto any kind of tax relief -- even one that's really hard to justify on cold economic terms; even one that contributes to an unhealthy asset inflation -- because they're already taxed to death a million ways. That, to me, feels like serfdom. Like we're the subjects of an irrational king, who grants us this or that boon on a totally manipulative basis (just to keep the peace; just to keep us from storming the castle) and we're....grateful. Not insulted. Not driven to revolution. But grateful.
May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
We only have ourselves to thank for our serfdom. When given the choice between greater freedom and greater risk or greater servitude and greater safety, Western societies choose safety every time.
Our "irrational king" is our desire to be comfortable and our abdication of personal responsibility.
Likely Ricochet members are not of this ilk, but there are enough of them in America to get us to where we stand today.
May '10
Re: This Kills Me to Say: Maybe We Should Eliminate the Mortgage-Interest Deduction
We have a comparable issue here in the Carolinas. Like other states, North Carolina and South Carolina often use tax incentives to lure businesses (e.g., SC's successful pitches to BMW and, recently, Boeing). Very significant conservatives in both states frequently complain about these breaks, usually on the grounds that they are "corporate welfare" and aren't available to existing businesses or regular joes. I'm all for reducing taxes across the board and, having lived in both states, believe me there is fat to cut before either state offers an ideal business envrionment. At the same time, the tax incentives bring in companies that hire people who in turn pay taxes and buy goods and services with their salaries which in turn generates more business and revenue. When conservatives get their knickers in a wad over targeted tax incentives, they cut off their nose to spite their face and frequently lose the "pro-business" label (this has been more pronounced in North Carolina, in my opinion). Don't let the perfect be the enemy of the good.
Besides, I think easy money and disastrous lending decisions did more to inflate housing than the mortgage interest deduction.