The Case For (and Against) Killing the Mortgage Interest Deduction

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Every year, most homeowners are still paying interest on their house. But the IRS helps them out by letting them keep an amount equal to their mortgage interest multiplied by their tax rate. This amount is "deducted" or subtracted from their taxable income, reducing their tax bill.

With this benefit in 2012, the federal government will give homeowners more than $130 billion -- more than two and a half times the entire Department of Housing and Urban Development.

Who benefits? Homeowners benefit because they get a subsidy, and renters don't. Rich folks who choose to itemize their deductions benefit, and lower-income families who take the standard deduction don't. Americans living in high-income, high-home value areas like Maryland and California benefit, while only one in seven North Dakotans take the deduction. High-income earners are in higher tax brackets and can deduct a higher portion of their interest. Most importantly, people who take out bigger loans benefit from having more interest to deduct.

The last point is key, because the mortgage interest deduction is a poor way to encourage homeownership. Canada has similar homeownership with no subsidy. Instead, it's an effective way to give eventual homeowners more money to take on more debt. It says: Hey taxpayer! If you buy a big house, make a small down-payment, and borrow lots of money, we'll reward that debt with a yearly $10,000 gift, courtesy of the American taxpayer. Does that sound like sound budgeting to you?

What should we do? The answer breaks three ways: (1) Do nothing; (2) Kill the deduction; or (3) Make like Goldilocks and find middle ground.

The case for doing nothing is that we will punish current homeowners who bought their homes expecting that the government would help them pay back the mortgage. Millions of homeowners tax bills will go up, and the value of their houses might decline. After all, without government subsidies, there might be less demand for expensive homes.

The case for killing the mortgage interest deduction is cold-hearted economics. The deduction is a regressive transfer of money from renters to buyers, from the low-income who need cash to the upper-middle class that doesn't need welfare. Our nation is approaching a debt crisis and this is an upper-middle class handout with three out of four dollars going to filers with incomes over $100,000.

The case for limiting the deduction is the most sensible. Currently taxpayers can claim the deduction if their mortgage is under $1 million. One easy change would be to lower that ceiling to $500,000 so that we're no longer subsidizing folks with million-dollar mortgages.

A more creative solution would turn the deduction into a credit. In simple terms, that means we let all homeowners keep exactly 20 percent of their yearly interest, no matter what tax bracket they're in. That plan would leave most homeowners better off while raising effective tax rates on the rich. And isn't that the point of the deficit plan in the first place: raising government revenue while protecting the middle and lower class?

http://www.theatlantic.com/business/archive/2010/11/the-case-for-and-against-killing-the-mortgage-interest-deduction/66596/

[I AM NOT THAT GUY 5,715]

I don't have a mortgage anymore..

So, kill it.

Actually, now that I am married, the Standard Deduction is way more than any itemized deductions I could come up with. Even my home office deduction is hardly worth the paperwork.

[scandal 951]

A more creative solution would turn the deduction into a credit. In simple terms, that means we let all homeowners keep exactly 20 percent of their yearly interest, no matter what tax bracket they're in. That plan would leave most homeowners better off while raising effective tax rates on the rich. And isn't that the point of the deficit plan in the first place: raising government revenue while protecting the middle and lower class?

I could support this. I would come out ahead, based on quick calculation I just ran.

I'm not really paying that much interest anyway, about $500/mo = $6000/yr. It's only marginally better for me to itemize than to take the standard deduction. I need the M.I. plus property taxes, state income tax and charitable contributions to get to about $14K in itemized deductions, meanwhile the standard deduction is $11400 (Married filing jointly). In a 25% bracket, the difference is only $3500 itemized vs $2850 standard - $650 gain. If I got a 20% credit for my roughly $6000 in M.I., that's $1200. I'm $550 better off with a 20% credit for MI, and then claim the standard deduction instead of itemizing.

It wouldn't surprise me if many middle class taxpayers/homeowners would come to a similar conclusion.