Mortgage Interest Deduction Research Articles

Reforming the Mortgage Interest Deduction

The $69 billion mortgage interest deduction (MID) is often viewed as an element of the tax code that promotes middle-class prosperity. However, 64 percent of the benefits, as measured by effective tax reduction, goes to households earning more than $100,000 per year. The large variation in nominal benefits is one of the reasons why many economists state that the MID is regressive. High-income earners average a tax benefit nearly nine times greater than a tax filer earning $50,000-$100,000. The effective tax reduction of the MID per return among tax filers earning between $100,000 and $200,000 is $1,420. That is still nearly 10 times larger than the $150 saved by taxpayers earning between $30,000 and $50,000. With 65.2 percent of all tax filers claiming to make less than $50,000, only 9.8 percent of these returns used the mortgage interest deduction. In order to create a simpler, more efficient tax code, policymakers should take care to effectively align tax policy with housing objectives.

Distribution Impact of the Mortgage Interest Deduction in the Czech Republic

This paper focuses on the mortgage interest deduction for owner-occupied housing in the Czech Republic. The main research question concerns the distribution of personal income tax liability given the rather generous interest deduction for owner-occupied housing loans and changes to it when restrictions are placed on the interest deduction in 2014. We used data for the Czech Republic from the EU-SILC surveys for our analysis. We estimated the value of this tax expenditure at approximately CZK 4.1 billion in 2011, with more than half the amount spent by the highest two deciles in income distribution. Personal income tax reform is legislated to begin in 2015 one part of which will be a cap on loan interest. This reform will lead to a decrease in the yearly value of the tax expenditure but will be followed by an increase in the PIT rate. Taken together, this will generate greater tax expenditures. Our computations show that the impact will be negative on households in the highest decile, while other groups will feel some benefit.

The Mortgage Interest Deduction: An Example of an Upside Down Federal Government Housing Subsidy

Federal housing subsidies overwhelmingly benefit homeowners over renters and wealthier Americans over poorer Americans through the US tax code. A better balance in both areas is needed to encourage equitable economic growth. The mortgage interest deduction is the primary driver of this imbalance and is by far the federal government’s largest investment in housing. Further, no evidence exists that the mortgage interest deduction encourages renters to become owners. Rather, its documented effect has been to encourage those who would purchase homes to buy bigger homes. Modest reforms to the mortgage interest deduction are necessary because of its size and inequitable nature. Any and all savings achieved through reforms must be used to balance housing subsidies by providing more resources for low- and moderate-income renters and owners.

The Long-Run Relationship between House Prices and Income Reexamined: The Role of Mortgage Interest Deduction and Mortgage Product Innovation

In many countries, house prices are overvalued according to price-to-income ratios. We propose that the borrower’s ability to pay through a mortgage is a long-run house price fundamental and …nd convincing evidence by means of cointegration tests, granger causality, and an elasticity of house prices �

The Mortgage Interest Deduction and its Impact on Homeownership Decisions

Abstract This paper examines the impact of the combined U.S. state and federal mortgage interest deduction (MID) on homeownership attainment, using data from 1984 to 2007 and exploiting variation in the subsidy arising from changes in the MID within and across states over time. We test whether capitalization of the MID into house prices offsets the positive effect on homeownership. We find that the MID boosts homeownership attainment only of higher-income households in less tightly regulated housing markets. In more restrictive places, an adverse effect exists. The MID is an ineffective policy to promote homeownership and improve social welfare.

Limiting the Mortgage Interest Deduction by Size of Home: Effects on the User Cost and Price of Housing Across Metropolitan Areas

In this paper, I examine the user cost and home price implications of limiting the federal mortgage interest deduction (MID) based on the square footage of a home. I extend the standard user cost model to include a square footage-based cap on the tax-favored status of mortgage interest. I compare two policy alternatives: one that limits the marginal deduction based on home size, and another that removes the deduction on the home based on home size. There is substantial variation across metropolitan areas in both the number of homes exposed to each type of cap, the user cost increase, and the resulting expected price declines.

Housing Market Distortions and the Mortgage Interest Deduction

Housing market distortions from the mortgage interest deduction (MID) typically focus on a single choice measure such as home size or self-reported amount of debt on a new mortgage. We estimate the amount of mortgage interest deducted on federal tax returns to capture the full range of housing market distortions from the MID. Our primary results show that for every one percentage point increase in the tax rate that applies to deductibility, the amount of mortgage interest deducted increases by US$303 to US$590. Empirical estimates imply elasticities of mortgage interest deducted with respect to the after-tax cost of housing between −0.78 and −1.62, and deadweight loss estimates ranging from 16 to 36 percent of MID tax expenditure.

Tax Expenditure Salience

We investigate taxpayer perceptions of two tax expenditures: the charitable deduction (CD) and the home mortgage interest deduction (HMID). Our survey evidence suggests widespread misperceptions regarding both programs' incentives. Almost half of eligible taxpayers are unaware of the CD's availability. Regarding the HMID, taxpayers err in both directions: many eligible taxpayers falsely believe themselves to be ineligible while even more ineligible taxpayers falsely believe themselves to be eligible. Eligible taxpayers tend to underestimate the magnitude of both tax subsidies. Our results provide important context for evaluating the effectiveness of the CD and HMID and shed light on potential reforms.

Transition Relief for Tax Reform's Third Rail: Reforming the Home Mortgage Interest Deduction After the Housing Market Crash

This Comment argues that Congress should — in this order of preference — eliminate the mortgage interest deduction, replace it with a credit, or substantially modify it, and that Congress can adopt any of these policies without substantial short-term fallout in the housing market.

Tax Expenditures, Reform, and Distributive Justice

Tax reform is coming, and it will be an important part of any plan to avert national fiscal disaster. The President’s Fiscal Commission recently presented a proposal for comprehensive tax reform that will form the basis for serious legislative discussion. At the center of that proposal is elimination of “tax expenditures,” which are provisions in the tax law that operate like direct government spending. They include the charitable deduction, the home mortgage interest deduction, the exclusion for employer-provided health insurance, the child credit, the earned income credit, education credits and deductions, the tax preference for retirement savings accounts like IRAs and 401(k) plans, and dozens of others. This article argues that elimination of tax expenditures is a flawed approach to tax reform. Tax expenditures are not an undifferentiated mass, but reflect a wide variety of federal policies, each of which requires independent evaluation. Before policymakers can decide whether to abolish tax expenditures, they need to know a lot more than the tax expenditure budgets currently reveal about what tax expenditures do, who benefits from them, and how much revenue could be raised by their repeal. They also need to decisively identify which provisions are tax expenditures, a perennial source of disagreement. This article argues that proposals to repeal tax expenditures reflect a normative preference for efficiency over equity, the traditional twin goals of tax policy, squandering the tax law’s unique role in economic justice.

Did Housing Policies Cause the Postwar Boom in Homeownership?

After the collapse of housing markets during the Great Depression, the U.S. government played a large role in shaping the future of housing finance and policy. Soon thereafter, housing markets witnessed the largest boom in recent history. The objective in this paper is to quantify the contribution of government interventions in housing markets in the expansion of U.S. homeownership using an equilibrium model of tenure choice. In the model, home buyers have access to a menu of mortgage choices to finance the acquisition of a house. The government also provides special programs through provisions of the tax code. The parameterized model is consistent with key aggregate and distributional features observed in the 1940 U.S. economy and is capable of accounting for the boom in homeownership in 1960. The decomposition suggests that government policies have significant importance. For example, the expansion in maturity of the fixed-rate mortgage to 30 years can account for 12 percent of the increase. Housing policies, such as the introduction of the mortgage interest deduction or the taxation of housing services can have significant effects on homeownership.

Mortgage Interest Deductions and Homeownership: An International Survey

The aim of this paper is to review the international evidence on the impacts of mortgage interest deductions (MID) on homeownership rates. To understand the relationship between the deductions and ownership rates, we develop a model of housing tenure choice. In that model, the probability of becoming a homeowner is a function of the relative cost of owning and renting, borrowing constraints, household income, and a set of taste variables. The relative cost of owning and renting is a function of house prices and the annual user cost of owner-occupied housing. Tax policies affect the user cost of owner-occupied housing and, in turn, the probability of becoming a homeowner. They also affect the price of housing due to capitalization effects. The empirical evidence suggests that, contrary to popular wisdom, the deduction generally does not increase the ownership rate. This result is likely due to the fact that the MID is capitalized into house prices, especially where housing supply is inelastic.

Three Proposals for Regulating the Distribution of Home Equity

The CFPB’s recently released “qualified mortgage” rules effectively discourage predatory lending but miss an equally important source of systemic risk: low-equity clustering. Specific “volatility inducing” mortgage terms when present in a substantial cluster of mortgage contracts exacerbate macroeconomic risk by increasing the chance that the housing and lending markets will have to absorb a wave of simultaneous defaults after a downturn in housing prices. We show that these terms became prevalent in a substantial proportion of residential mortgages in the years leading up to the home mortgage crisis. In contrast, during the earlier “amortization era” (when mortgagors were more likely to borrow at different times, with more substantial down payments, and more continual rates of amortization, without a need to refinance), an equally sized negative shock to housing prices would likely produce less negative equity, to a smaller set of borrowers. Instead of prohibiting the volatility-inducing terms, we propose three policies to better assure a greater diversification in the distribution of equity: (a) a modified home-mortgage interest deduction; (b) a modified “qualified residential mortgages” standard; and most importantly, (c) direct macroprudential regulation through a “cap-and-trade” system of leverage licenses and instituting varying degrees of “conforming mortgages” for Fannie Mae and Freddie Mac. Limiting the simultaneous clustering of negative equity mortgages can reproduce the structural advantages that were a natural byproduct of the amortization era where inevitable downturns, which disparately impacted homeowners with different levels of equity, could more easily be absorbed by the market.

Tax Expenditure Salience

We provide survey evidence regarding taxpayer perceptions of two important tax expenditures — the charitable contribution deduction (CD) and the home mortgage interest deduction (HMID). We find that taxpayers have a flawed understanding of both programs. Taxpayers underestimate their eligibility for tax benefits for giving charitable gifts. Conditional on being eligible for CD, taxpayers also underestimate the size of the tax benefits. For the HMID, there are many eligible taxpayers who do not believe they receive a benefit, and many ineligible taxpayers who falsely believe they receive one. Conditional on qualifying for HMID, taxpayers underestimate the size of the tax benefits. Errors are prevalent even in the highest income categories. The results cast doubt on conventional understandings of the elasticity of charitable giving and home purchasing to tax expenditures. Moreover, the results suggest that even salient tax expenditures may be a particularly flawed means of subsidizing desirable behavior.

Size of home, homeownership, and the mortgage interest deduction

This paper offers an empirical test of the effect of the mortgage interest deduction (MID) on both the extensive (own vs. rent) and intensive (size of home) housing purchase margins. Using state level differences in MID availability to identify, I examine this relationship using standard ordinary least squares, instrumental variables, regression discontinuity, and sample selection estimation techniques. I find the MID to be responsible for a 10.9–18.4% increase in the size of home purchased, but that no relationship exists between the MID and home ownership. These results imply an elasticity of home size with respect to changes in user cost between −1 and −1.4.

Dynamic Political Distortions Under Alternative Constitutional Settings

Many government policies systematically influence citizens' acquisition of economic information. Since voters evaluate policy platforms in light of this information, these policy feedback effects can affect voters' long term policy preferences. We illustrate this logic in the context of government subsidies to property ownership. Using an extension of the Romer-Meltzer-Richard model with imperfect information about the economy, we show how subsidies to ownership of real estate -- such as mortgage interest deductions or discounted sales of public housing -- produce an electorate that is systematically less favorable to redistributive taxation. The resulting political complementarity between home subsidy and fiscal conservatism is consistent with several empirical regularities.

Mortgage Interest Deductions and Homeownership: An International Survey

The aim of this paper is to review the international evidence on the impacts of mortgage interest deductions on homeownership rates. The probability of becoming a homeowner is a function of the relative cost of owning and renting, borrowing constraints, permanent household income, and a set of taste variables. The relative cost of owning and renting is in part a function of house prices and the annual user cost of owner-occupied housing. Tax policies affect the user cost of owner-occupied housing and, in turn, the probability of becoming a homeowner. They also affect the price of housing due to capitalization effects. We draw on a number of empirical studies that have been conducted for several countries in North America, Europe, Australasia, and Asia. The empirical evidence suggests that, contrary to popular wisdom, the MID generally does not increase the ownership rate. This result is likely due to the fact that the MID is capitalized into house prices, especially where housing supply is inelastic.

THE DISTRIBUTIONAL AND REVENUE CONSEQUENCES OF REFORMING THE MORTGAGE INTEREST DEDUCTION

The mortgage interest deduction (MID) is costly, and half the benefits accrue to the top 10 percent of taxpayers. This paper analyzes how five modifications to the MID would affect federal individu...

The Incidence of the Mortgage Interest Deduction: Evidence from the Market for Home Purchase Loans

This article examines the incidence of the largest housing-related subsidy in the federal budget, the home mortgage interest deduction (MID). The author uses the difference in interest rates for loans made around the MID limit to identify the incidence of the subsidy. Using data on individual mortgages originated in 2004, the author estimates that for every $1,000 borrowed without the MID, the interest rate on the entire loan decreases by between 3.3 and 4.4 percent. Results suggest that lenders capture between 9 and 17 percent of the subsidy created by the home MID through higher mortgage interest rates.

Rethinking the Federal Bias Toward Homeownership

The most fundamental fact about rental housing in the United States is that rental units are overwhelmingly in multifamily structures. This fact surely reflects the agency problems associated with renting single-family dwellings, and it should influence all discussions of rental housing policy. Policies that encourage homeowning are implicitly encouraging people to move away from higher density living; policies that discourage renting are implicitly discouraging multifamily buildings. Two major distortions shape the rental housing market, both of which are created by the public sector. Federal pro-homeownership policies, such as the home mortgage interest deduction, weaken the rental market and the cities where rental markets thrive. Local policies that discourage tall buildings likewise ensure that Americans have fewer rental options. The economic vitality of cities and the environmental consequences of large suburban homes with long commutes both support arguments for reducing these distortions.