The second problem is the MID’s benefits scale up with income, as homeowners move up into a higher tax bracket or buy more expensive houses. A guy making $75,000 a year with a $200,000 home in Peoria, Ill. gets a deduction of $1,500 from his mortgage interest—but only if he has enough deductions elsewhere to itemize, which he probably doesn’t. The MID would save him less than $400 given his tax rate.
Meanwhile, a San Francisco tech entrepreneur making $500,000 a year and living in a $1 million home might deduct as much as $40,000, saving over $20,000—or almost 40 times the middle-class guy in the Midwest. The MID’s benefit grows disproportionately with income, which is simply indefensible, and does little to boost homeownership.
And I’m setting aside the fact that few economists who study housing issues consider homeownership an unalloyed good worth subsidizing at all. The oft-repeated notions that homeowners are more civic-minded, more likely to be employed, and have more stable home lives may be true, but they confuse cause and effect and thus don’t justify policymakers’ attempts to create more homeowners.
Most people in the real estate world understand these truths and behave accordingly when called on to defend the MID. A few months ago I was on a dais with an economist employed by a major player in the industry. After I vivisected the mortgage interest deduction, the microphone passed to him and he completely ignored my remarks, instead talking about something else. After the event concluded I asked him why he didn’t respond to my comments. He explained that he and other industry reps realized long ago that a public-spirited defense of the MID simply does not exist, and that their practice, when put in a spot to defend it, is to simply change the subject. They know it’s a fight they can’t win.
Keynesian stimulus? / A few people never got that memo, however. As Congress has begun to explore tax reform more seriously, a couple of economists and institutions have given a full-throaed defense of the MID and its supposedly beneficial effects on homeownership and the economy.
One such effort is a 2014 paper from the Heritage Foundation, written by Curtis Dubay. He reasons that while the MID may do little to boost homeownership (acknowledging that its savings is fully offset in current home prices, which is yet another reason to dispense with the deduction), it is nonetheless good policy because it incentivizes the 30% of the population that do avail themselves of it into spending more money on housing. And, this reasoning continues, since housing represents an “investment” for these people, and investment is a key ingredient in economic growth, it therefore stands to reason that the deduction boosts growth.
It’s an impressive sleight of hand: the trick employed here is to conflate the meaning of the word “investment.” Economists reserve the word to mean money spent by firms on plant, equipment, technology, or other things that will boost productivity and future output. But people do not invest, they save. While savings creates funds available for firms to make investments, not all of what we save is used that way.
Housing is most emphatically not an investment; it amounts to one way for people to hold their wealth. When people spend more money on housing, it does not improve the productive capacity of the economy one iota; indeed, the more wealth people have wrapped up in their home means they have less money available to put into stocks or bonds or their bank, where that money could be used to invest in expanding the capacity of the economy. In fact, some economists have blamed a portion of the slowdown in productivity growth in the early 2000s on the massive uptick in spending on constructing new homes.
Dubay implicitly acknowledges this uncomfortable fact and tries to zigzag around it by arguing that the increase in spending on housing stimulates the economy, and that the spending creates more jobs building houses, manufacturing home products, and the like. For a Heritage Foundation paper, this is a remarkably Keynesian argument. But it’s Dubay’s only option if he wants to defend the mortgage interest deduction. Without this situational embrace of a left-wing economic perspective, he would be caught in an utterly unjustifiable position—which, of course, he could avoid by simply choosing not to defend the deduction in the first place.
Main Street Republicans? / Jeffrey Anderson of the Hudson Institute offers a different defense of the deduction. He recently took issue with the tax plan released by House Republicans this summer for its effective, surreptitious gutting of the MID. The Republicans would nominally preserve the deduction, but they would create an environment in which few people take it.
Their plan would do this by boosting the standard deduction, lowering and flattening tax rates, and eliminating most other deductions. That means that fewer people would find it worth their while to itemize. If high-income earners are only saving 30 cents of each dollar of mortgage interest paid instead of 39.6¢, they would have to pay much more interest to make it worth itemizing. And if there are few other deductions a taxpayer can take, it means that the interest paid has to be higher still to make it worth itemizing and forgoing the standard deduction.
In particular, the deduction for state and local taxes tends to go arm-in-arm with the MID because most people with a mortgage will also deduct their property taxes, which can be anywhere from 40% to 100% or more of the amount of the mortgage interest deduction. Eliminating that deduction—which the House Republicans’ plan would do—drastically reduces the size of a homeowner’s tax deductions and makes it much less likely that she will itemize and, thus, deduct her mortgage interest.
As a result, enacting the Republican House tax plan would reduce the proportion of people itemizing from 30% today to less than 5%, according to estimates from the Joint Committee on Taxation. This, Anderson avers, would hurt “Main Street” Republicans, which is apparently his moniker for those in the 6th–30th percentile of the income distribution.
In essence, he appears to be arguing for a code with higher tax rates, more deductions, credits, and exclusions, and more tax brackets because—what? It would help the wealthy to afford their houses? It’s sheer nonsense. It is not a secret that the housing and real estate industry would prefer to keep the present jury-rigged contraption of a tax code because of the outsized impact it gives to the MID, but it is not something they would ever admit. Bully for Anderson for clearly articulating that completely corporatist logic and then trying to spin it as good for the overall economy.
The sad reality is that the MID isn’t going anywhere, simply because its patrons are too powerful. There are over one million realtors in the United States, many of whom are exceedingly wealthy, and their political arm, the National Organization of Realtors, takes in nearly $300 million a year. If the deduction ever came under attack, it’s easy to conceive of them raising another $300 million to finance a defense. The various state-level realtor organizations collect hundreds of millions of dollars a year as well, not to mention the trade associations for the homebuilders, mortgage bankers, roofers, drywallers, plumbers, tile installers, title insurers, and the like.
The realtors and their allies know how to push all the levers of politics, as I’ve seen firsthand. A decade ago I wrote a speech for a politician I worked for that took an indirect swipe at the MID. When we traveled back to his home state the next month, he met with a group of local realtors. Their leader told him they were disappointed in his comments on the MID and they wanted to show their displeasure. Upon his command the 100 or so in attendance stood on their chairs and began yelling loudly. My boss profusely apologized and blamed it (correctly) on his economist. He instructed me to never touch the topic again.
The realtors and their allies are aggressive about heading off all assaults on the deduction. A few years ago I wrote a piece in my hometown paper in Peoria suggesting that a proposal that was then being floated to cap the mortgage interest deduction at $500,000 would be a good thing for the residents of the city. A six-figure ad campaign financed by Peoria’s homebuilders, realtors, and mortgage bankers defending the deduction quickly ensued.
Shortly thereafter I called a realtor friend who pulled the listing of sales of houses over $600,000 in the area for that year—that is, homes that would be affected by such a cap. There were less than a dozen houses above that threshold. In essence, the ad campaign cost more than such a cap would have cost central Illinois homeowners.
There is no honest public policy rationale for the MID. It is a tax break that will cost the U.S. government nearly $1 trillion in the next decade while accomplishing nothing save for boosting the prices for the homes of upper-middle-class families. It also does nothing to make housing more affordable for the middle class and below. Those who attempt to argue otherwise do so via half-truths, semantic games, or obfuscation.
Readings
- “House GOP Tax Plan: Great for Growth, Bad for Homeowners,” by Jeffrey H. Anderson. Weekly Standard, Aug. 22, 2016.
- “The Proper Tax Treatment of Interest,” by Curtis S. Dubay. Backgrounder #2868, Heritage Foundation, Feb. 19, 2014.
