Mortgage Deduction Phaseout

 

As Richard Epstein said on The Libertarian, one of the deductions he is highly in favor of eliminating is the Mortgage Interest Deduction.

I propose a phaseout of the deduction starting with a deduction cap of $60,000 for the first year and reducing it by $2,000 per year over 30 years.

The current max for a mortgage size is $1 million. A $60k deduction is equivalent to a 6% mortgage at this debt level — a rate very few people are paying.

The 30 year phase out period means that everyone will have plenty of time to adjust to the new normal. People with current mortgages and those who buy soon should be mostly unaffected since 30 years is the standard payment plan, the share of interest one pays decreases over the life of the loan, and interest rates are well below 6% right now.

Home prices will have a tremendous amount of time to adjust, and so there shouldn’t be any big shocks to the market.

Best of all, we’ll have eliminated one of the biggest market distortions, shown that entrenched deductions can be eliminated, freed up a bunch of revenue we can use to flatten the tax code, and gotten the government incrementally closer to that “postcard sized” tax form we all want.

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  1. Hoyacon Member
    Hoyacon
    @Hoyacon

    Could we also eliminate (or sharply curtail) the deduction for “second” homes?

    • #1
  2. skipsul Inactive
    skipsul
    @skipsul

    Hear hear!

    • #2
  3. Jamie Lockett Member
    Jamie Lockett
    @JamieLockett

    How do you propose to solve the knock on effect for home values?

    • #3
  4. Steve C. Member
    Steve C.
    @user_531302

    Jamie Lockett (View Comment):
    How do you propose to solve the knock on effect for home values?

    Has anyone quantified what that might be?

     

    • #4
  5. Mike H Inactive
    Mike H
    @MikeH

    Jamie Lockett (View Comment):
    How do you propose to solve the knock on effect for home values?

    My thought (hope?) was the fact that everyone knew what was going on over the course of 30 years would even out and only slightly depress home values.

    • #5
  6. Mike H Inactive
    Mike H
    @MikeH

    Hoyacon (View Comment):
    Could we also eliminate (or sharply curtail) the deduction for “second” homes?

    My thought was to have the cap be a global max. It would cover whatever homes you have (probably keeping current law) and your total deduction for any home interest (including home equity loans) would be capped.

    • #6
  7. Spiral Inactive
    Spiral
    @HeavyWater

    Jamie Lockett (View Comment):

    How do you propose to solve the knock on effect for home values?

    Accept that a limit on the home mortgage interest deduction would likely reduce home values.

    But if it starts out as a limit that only impacts people at the very high end of the real estate market, is anyone going to cry about how a 2 million dollar home is now only worth 1,9 million?

    Here in Indiana many home owners use the standard deduction instead of the home mortgage interest deduction.

     

    • #7
  8. Jamie Lockett Member
    Jamie Lockett
    @JamieLockett

    Spiral (View Comment):

    Jamie Lockett (View Comment):

    How do you propose to solve the knock on effect for home values?

    Accept that a limit on the home mortgage interest deduction would likely reduce home values.

    But if it starts out as a limit that only impacts people at the very high end of the real estate market, is anyone going to cry about how a 2 million dollar home is now only worth 1,9 million?

    Here in Indiana many home owners use the standard deduction instead of the home mortgage interest deduction.

    The effect on the value of the home far exceeds the value of the deduction.

    • #8
  9. Spiral Inactive
    Spiral
    @HeavyWater

    Jamie Lockett (View Comment):

    Spiral (View Comment):

    Jamie Lockett (View Comment):

    How do you propose to solve the knock on effect for home values?

    Accept that a limit on the home mortgage interest deduction would likely reduce home values.

    But if it starts out as a limit that only impacts people at the very high end of the real estate market, is anyone going to cry about how a 2 million dollar home is now only worth 1,9 million?

    Here in Indiana many home owners use the standard deduction instead of the home mortgage interest deduction.

    The effect on the value of the home far exceeds the value of the deduction.

    Lower prices are generally better than higher prices.

    Are we in favor of farm subsidies now too?

    • #9
  10. Jamie Lockett Member
    Jamie Lockett
    @JamieLockett

    Spiral (View Comment):

    Jamie Lockett (View Comment):

    Spiral (View Comment):

    Jamie Lockett (View Comment):

    How do you propose to solve the knock on effect for home values?

    Accept that a limit on the home mortgage interest deduction would likely reduce home values.

    But if it starts out as a limit that only impacts people at the very high end of the real estate market, is anyone going to cry about how a 2 million dollar home is now only worth 1,9 million?

    Here in Indiana many home owners use the standard deduction instead of the home mortgage interest deduction.

    The effect on the value of the home far exceeds the value of the deduction.

    Lower prices are generally better than higher prices.

    Are we in favor of farm subsidies now too?

    You have over 4 generations of Americans whose primary store of wealth is their home value. That will have repercussions. It’s still a good thing to do IMO but we need to think through these things before establishing policy.

    • #10
  11. Spiral Inactive
    Spiral
    @HeavyWater

    Jamie Lockett (View Comment):

    Spiral (View Comment):

    Jamie Lockett (View Comment):

    Spiral (View Comment):

    Jamie Lockett (View Comment):

    How do you propose to solve the knock on effect for home values?

    Accept that a limit on the home mortgage interest deduction would likely reduce home values.

    But if it starts out as a limit that only impacts people at the very high end of the real estate market, is anyone going to cry about how a 2 million dollar home is now only worth 1,9 million?

    Here in Indiana many home owners use the standard deduction instead of the home mortgage interest deduction.

    The effect on the value of the home far exceeds the value of the deduction.

    Lower prices are generally better than higher prices.

    Are we in favor of farm subsidies now too?

    You have over 4 generations of Americans whose primary store of wealth is their home value. That will have repercussions. It’s still a good thing to do IMO but we need to think through these things before establishing policy.

    Any analysis of the repercussions is likely to be speculative.  You will have the Realtors association saying that home prices will fall more dramatically than they did during the 2007-2009 crash.  You will have the Cato Institute saying that it will be minimal (as long as the limiting of the deduction is offset by reducing the marginal tax rate on personal income).

    But I like the idea of the OP.

    • #11
  12. Jamie Lockett Member
    Jamie Lockett
    @JamieLockett

    Spiral (View Comment):

    Jamie Lockett (View Comment):

    Spiral (View Comment):

    Jamie Lockett (View Comment):

    Spiral (View Comment):

    Jamie Lockett (View Comment):

    How do you propose to solve the knock on effect for home values?

    Accept that a limit on the home mortgage interest deduction would likely reduce home values.

    But if it starts out as a limit that only impacts people at the very high end of the real estate market, is anyone going to cry about how a 2 million dollar home is now only worth 1,9 million?

    Here in Indiana many home owners use the standard deduction instead of the home mortgage interest deduction.

    The effect on the value of the home far exceeds the value of the deduction.

    Lower prices are generally better than higher prices.

    Are we in favor of farm subsidies now too?

    You have over 4 generations of Americans whose primary store of wealth is their home value. That will have repercussions. It’s still a good thing to do IMO but we need to think through these things before establishing policy.

    Any analysis of the repercussions is likely to be speculative. You will have the Realtors association saying that home prices will fall more dramatically than they did during the 2007-2009 crash. You will have the Cato Institute saying that it will be minimal (as long as the limiting of the deduction is offset by reducing the marginal tax rate on personal income).

    But I like the idea of the OP.

    I think we are both in agreement there.

    • #12
  13. Arizona Patriot Member
    Arizona Patriot
    @ArizonaPatriot

    I like the idea, and agree that the gradual phase-in would minimize any effect on home values.  It would be helpful to see some empirical research on the issue, perhaps in states that have either initiated or eliminated such a deduction.

    • #13
  14. James Of England Inactive
    James Of England
    @JamesOfEngland

    Would you accept the Romney plan of having it vanish over time as a practical matter for those with high deductions as an alternative?

    • #14
  15. Jamie Lockett Member
    Jamie Lockett
    @JamieLockett

    I was thinking about this plan and with the way loans are structured this might not be as effective as you think. By the 30 year mark people already pay far less in deductible interest on a yearly basis than at the beginning of their loan period.

    • #15
  16. Mike H Inactive
    Mike H
    @MikeH

    Jamie Lockett (View Comment):
    I was thinking about this plan and with the way loans are structured this might not be as effective as you think. By the 30 year mark people already pay far less in deductible interest on a yearly basis than at the beginning of their loan period.

    Can you expand on this? What are you saying won’t be effective?

    I’m eliminating any and all mortgage deductions for everyone regardless of mortgage status after 30 years.

    The fact that people have far less deductible interest after 20-30 years is a feature not a bug. It means that you can pass this phase out and it affects no one who owns or buys a house today, except their property might be worth significantly less than it would have been with the market distortion when they go to sell in 30+ years, though almost certainly not literally less.

     

    • #16
  17. ModEcon Inactive
    ModEcon
    @ModEcon

    @jamielockett

    Why do we need to protect home value for people based on a government subsidy. Everybody should know that that kind of thing can be taken away on the whim of congress. Homes are currently overvalued. Undoing the subsidy will return homes to their “correct” value and that is not something we can or should try to prevent.

    Anybody caught out by this shouldn’t have afforded the home in the first place and they may have to sell as is apropriate. With a phase in time of 30 years nobody can claim they are caught unprepared.

    Home value is not guaranteed. At least, it shouldn’t be. How many towns become ghosts after businesses pull out. Home values plummet. There is nothing government should do about that. In this case of a government subsidy,  the people who will be hurt are the same as those currently taking advantage of the system and getting more at the cost of others having to pay more tax. We should care about those who can’t afford to buy homes as well.

    • #17
  18. Mike H Inactive
    Mike H
    @MikeH

    James Of England (View Comment):
    Would you accept the Romney plan of having it vanish over time as a practical matter for those with high deductions as an alternative?

    I mean, I guess I’d “accept” anything, but I believe the mortgage deduction is pretty damaging at all income levels. The idea that subsidizing housing does anything other than artificially raise housing prices because people just bid up the prices to the payments they’re comfortable with is pretty ridiculous.

    • #18
  19. Chris O. Coolidge
    Chris O.
    @ChrisO

    Speaking politically, you’re not decreasing the value of a home, but lowering the potential for new homeowners to enter the market, whether in fifteen years or 30. The policy question becomes: do you want to encourage home ownership? Then, does elimination of the mortgage deduction encourage or discourage this?

    When it comes time for someone to look at the market and the deduction does not exist, they will have a housing market set up for the deduction. In other words, a market that offers a percentage (say 10-20) higher cost than what is affordable. That percentage, whatever it is, represents the cash flow formerly protected by the deduction.

    A possible result, then, is a short or medium term where potential homeowners are either unable to find value or only able to do so at greater risk. Ownership rates in this scenario will likely decrease, and a different culture to home ownership established, unless things are looser on the finance side (and we’ve seen where that goes).

    I dunno, it seems like ownership of property is a big eye opener for people politically. By depressing ownership rates, you’re also potentially weakening some of the core interests that lead to a more conservative and/or libertarian outlook. Just a thought about the next step.

    • #19
  20. James Of England Inactive
    James Of England
    @JamesOfEngland

    Mike H (View Comment):

    James Of England (View Comment):
    Would you accept the Romney plan of having it vanish over time as a practical matter for those with high deductions as an alternative?

    I mean, I guess I’d “accept” anything, but I believe the mortgage deduction is pretty damaging at all income levels. The idea that subsidizing housing does anything other than artificially raise housing prices because people just bid up the prices to the payments they’re comfortable with is pretty ridiculous.

    I agree. I think that the ultimate goal was to phase out the deduction entirely. It was just a subtler way of doing so than starting with it being explicit.

    • #20
  21. Matt White Member
    Matt White
    @

    Jamie Lockett (View Comment):
    I was thinking about this plan and with the way loans are structured this might not be as effective as you think. By the 30 year mark people already pay far less in deductible interest on a yearly basis than at the beginning of their loan period.

    I think you misunderstand the plan.

    It wouldn’t apply a 30 year phaseout when a loan originates. It would be an absolute limit of $60,000 on interest deductions for current loans the first year it in effect, $58,000 the next year… so a loan originating 15  years after the law takes effect would have deductions capped at $30,000 the first year.

    I think it’s too slow. I would start around $15,000 and drop $1000 each year.

    • #21
  22. jeannebodine Member
    jeannebodine
    @jeannebodine

    Lead balloon. Good, bad or indifferent, it will go over just like one. The middle class already feel put upon and %99.9 of them don’t understand “sophisticated” economics nor do they have any inclination to learn.  Heck, we could count ourselves lucky if less than 75% of college graduates of the future don’t demand free, collectivized housing owned by the state.

    • #22
  23. Miffed White Male Member
    Miffed White Male
    @MiffedWhiteMale

    Are you going to take away the business deduction that Landlords get for interest paid to finance their apartment buildings? Because that’s going to drive up rents (i.e. “affordable housing”).

    If not, why are you favoring rental properties over owner-occupied properties?

    • #23
  24. Cato Rand Inactive
    Cato Rand
    @CatoRand

    Spiral (View Comment):

    Jamie Lockett (View Comment):

    How do you propose to solve the knock on effect for home values?

    Accept that a limit on the home mortgage interest deduction would likely reduce home values.

    But if it starts out as a limit that only impacts people at the very high end of the real estate market, is anyone going to cry about how a 2 million dollar home is now only worth 1,9 million?

    Here in Indiana many home owners use the standard deduction instead of the home mortgage interest deduction.

    Yes.  People with $2 million dollar homes who are mortgaged up to their eyeballs.  There are more of them than you might think.

    • #24
  25. Cato Rand Inactive
    Cato Rand
    @CatoRand

    Arizona Patriot (View Comment):
    I like the idea, and agree that the gradual phase-in would minimize any effect on home values. It would be helpful to see some empirical research on the issue, perhaps in states that have either initiated or eliminated such a deduction.

    You really can’t get a ton of useful info from that just because the federal tax rate swamps even the rates in the highest tax states.  The primary benefit of the deduction is always going to be a reduction in federal taxes.

    • #25
  26. Cato Rand Inactive
    Cato Rand
    @CatoRand

    @mikeh

    I like the idea, but I wonder why the focus on this particular distortion in the tax code, among the plethora available to choose from?  It’s far better economics, and I suspect better politics, to simplify and straighten as much of the tax code as we can at once.  It’s just easier to accept your ox being gored if everyone else’s is at the same time.

    • #26
  27. Steve C. Member
    Steve C.
    @user_531302

    jeannebodine (View Comment):
    Heck, we could count ourselves lucky if less than 75% of college graduates of the future don’t demand free, collectivized housing owned by the state.

    You say that like its a bad thing.

    • #27
  28. Jamie Lockett Member
    Jamie Lockett
    @JamieLockett

    ModEcon (View Comment):
    @jamielockett

    Why do we need to protect home value for people based on a government subsidy. Everybody should know that that kind of thing can be taken away on the whim of congress. Homes are currently overvalued. Undoing the subsidy will return homes to their “correct” value and that is not something we can or should try to prevent.

    Anybody caught out by this shouldn’t have afforded the home in the first place and they may have to sell as is apropriate. With a phase in time of 30 years nobody can claim they are caught unprepared.

    Home value is not guaranteed. At least, it shouldn’t be. How many towns become ghosts after businesses pull out. Home values plummet. There is nothing government should do about that. In this case of a government subsidy, the people who will be hurt are the same as those currently taking advantage of the system and getting more at the cost of others having to pay more tax. We should care about those who can’t afford to buy homes as well.

    2008 that’s why. There are real world consequences that need to be accounted for. You will be destroying wealth that people thought they could rely on. That will have broader effects on he economy.

    • #28
  29. ModEcon Inactive
    ModEcon
    @ModEcon

    Jamie Lockett (View Comment):

    ModEcon (View Comment):
    @jamielockett

    Why do we need to protect home value for people based on a government subsidy. Everybody should know that that kind of thing can be taken away on the whim of congress. Homes are currently overvalued. Undoing the subsidy will return homes to their “correct” value and that is not something we can or should try to prevent.

    Anybody caught out by this shouldn’t have afforded the home in the first place and they may have to sell as is apropriate. With a phase in time of 30 years nobody can claim they are caught unprepared.

    Home value is not guaranteed. At least, it shouldn’t be. How many towns become ghosts after businesses pull out. Home values plummet. There is nothing government should do about that. In this case of a government subsidy, the people who will be hurt are the same as those currently taking advantage of the system and getting more at the cost of others having to pay more tax. We should care about those who can’t afford to buy homes as well.

    2008 that’s why. There are real world consequences that need to be accounted for. You will be destroying wealth that people thought they could rely on. That will have broader effects on he economy.

    You say 2008, but isn’t that what having the deduction is heading us towards, over inflated prices due to subsidies. Better to correct now than later. What about  the fact that so many people without houses are paying more than their share of tax. If you are in favor of less taxes or in favor of more equal taxes, shouldn’t you also want to lower taxes overall by removing the government subsidy that is in just one area thereby reducing overall tax rate by stopping such a ridiculous tax deduction.

    Do I even need to mention how it discriminates against those who can’t afford or don’t have an option to buy a house.

    I just don’t see how people can honestly be in favor of a deduction for interest on debt. In fact, isn’t 2008 in part caused by people being subsidized to spend more than they should because of such deductions.

    I don’t agree with your statement at all.

    • #29
  30. Chris Member
    Chris
    @Chris

    Miffed White Male (View Comment):
    Are you going to take away the business deduction that Landlords get for interest paid to finance their apartment buildings? Because that’s going to drive up rents (i.e. “affordable housing”).

    If not, why are you favoring rental properties over owner-occupied properties?

    Calling all accountants and economists.

    Wouldn’t this interest deduction for landlords be in line with the idea that all interest expenses for a business are deductible and that a well organized business uses debt (and its accompanying interest shield) to raise the return on equity of the owners? Put another way, wouldn’t this be punishing landlords as a class compared to other businesses because the the landlord’s debt is used to finance buildings that hold living spaces rather than anything else?

    On a related note, during the 1980’s individuals lost the ability to deduct credit card interest.  Anyone know offhand the concerns and actual consequences of that event and theories on what, if any, lessons can be applied here?

    • #30
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