patrick.net

Eliminating the deduction (or allowing it in the first place) serves one group at the expense of another.

In the end, it is all about men exploiting men, or the other way around.

There is no "right" solution. There is a situation and there is the market. We can only play it.

Canada, England, Australia and other countries do not allow mortgage interest deductions, and they survive just fine, maybe better.

Canada and Australia are countries with rich natural resources and few people.

England is still drinking the housing kool-aid, albeit in the ultra-luxury sector.

Bubble is about greed, which is a defining quality of human nature. But hey, greed is good, right?

I agree with eliminating the MID in principle (it does drive up the price of housing over the long run and subsidizes homedebtors at the expense of renters); however, good luck getting any politician on that bandwagon. Want to piss off 69% of the voting public (which also tends to vote and contribute more often than renters)? I doubt even ultra-Lefties or die-hard Libertarians would touch that with a 10-meter pole.

That said, elimitating the MID for flippers (multiple houses) and extending the "occupancy" requirement beyond 24 months could possibly be framed to the public as anti-speculator/fraudster, albeit not an easy sell. It's kind of like Prop. 13: so popular with the general public that a full repeal is extremely unlikely, but amending it from a populistic, anti-fraud POV might possibly work.

I think that when the MID was first put in place, Congress had in mind the nominal 3% mortgage rates and house prices of around $10-20K prevalent at the time. IIRC my dad bought the house in Palo Alto in 1947 for $10,500 with a 3% GI Bill mortgage. Nowadays with a 6-7% mortgage on a $900K nominal "starter" house the amount dwarfs that which was originally intended.

Getting rid of the deduction for $300K+ houses would target the pain to the Democrat strongholds of California, Mass, and New York. It ain't gonna happen.

I benefitted greatly from the MID during my mortgage years 1981-2005. Now I would be quite happy to "stick it to" guys like Surfer-X. I got mine! To heck with you! ;)

Unfortunately we are more likely to see MORE entitlements that run up the price of housing than anything sane/fair.

For example of possible craziness coming soon:
1. Change 2 year 250/500 tax free sale to 1 year 500/1m tax free sale! (I made this one up)

2. Raise 'conforming loan' limit for fred/fanny/FHA (already talking about it!)

Its pretty scary when the gubbermint wants to 'regain market share' from the lending industry, who the hell can compete with the feds?

Whats next the feds BUILD homes too and list in the mls?!? oh well there is HUD so they are almost there.

This is even more useless to discuss than prop 13. In being anti prop 13, you are fighting against only CA. Being anti-MID you are fighting against the whole country.

It might be easier to completely overhaul the tax system where NO deduction is allowed. Of any sort. Not even 401K contributions. No "hardship" category deductions.

For that to happen, first the tax code needs to get much more complicated than it currently is. Once it becomes a complete mess that even Intuit cannot solve, people will wake up and try for simplification. That is still a few decades in future.

If you want to hasten that mess up, propose more deductions, not less. Here is my list.

- Deductions for rent
- Credits for the expenses to acquire more job related skill
- Early Adopter credits (for supporting R&D and keeping USA competitive) for buying iPhone etc
- Local Economy Support credits (for purchasing stuff from Farmer's market)
- Deduction for vacation expenses

Have fun and a safe July4th.

StuckinBA,

(sigh)

Yeah, let's call it the CPA and Tax Attorney Full Employment Act.

OK, a thread where I can claim expertise. :)

I have been both a homeowner and a landlord in Australia, and can state categorically that the absence of mortgage interest deductibility here benefits Landlords, not renters (or aspiring homebuyers).

The basic reason is that Landlords can still claim deductibility on their property, because it is a straightforward business expense.

More specifically:

Firstly, people should realise that the top marginal tax rate in Australia (and therefore the Australian asymptote on the chart) is 45%. Last year it was 49% and when I first started working full time it was 60% and cut in at less than twice the average income. I have myself had to pay 60% on the final few dollars of my income once, and believe me I made sure that my taxable income was under the appropriate limit the following year. 49% is bad enough!!

Compared to some other jurisdictions there is therefore quite a high incentive in Australia to turn large incomes into something (anything) else that attracts a lower rate of tax. The favourite 'something else' has for a long time been Capital Gains, which for assets acquired pre-1983 has a 0% rate, and for post-1983 assets has a rate equivalent to half the normal income rate.

Secondly, Australia allows Landlords to deduct their Real Estate expenses against their Gross income, not their Real Estate income. Landlords can therefore run their properties at a tax loss, gain a high-rate deduction, and then pay a low rate on any Capital Gain.

It is in fact possible by judicious use of depreciation to run a tax loss with a positive cash flow, so you get some cash flow and a tax refund each year, then a low rate CG when it's time to sell.

This bias in favour of Landlords increases when there is relatively high inflation and interest rates, but is significant all the time.

As a result something like 5% of the entire Australian population are Landlords, and collectively run the residential rental sector at a significant loss which grows every year. The Treasury Department campaigns against the system continuously, but no politician dares touch it because up 'til now it's been seen as the only real perk for the little guy.

Eliminating the tax deduction for mortgage interest would not make housing more affordable because, while the prices might decline a little, the real after-tax cost of your mortgage would increase. These two factors should offset each other with no improvement in affordability.

Even so it does seem appropriate to eliminate the tax advantage of having a mortgage.

So who would benefit from this?

A tax deduction is worth more to a person who pays a higher tax rate. A deduction is also worth more if it is larger. Accordingly, the mortgage interest deduction is of greatest benefit to the people in the highest tax brackets with largest mortgages. However, the wealthiest people generally have no mortgages, so they really do not benefit. The poor do not buy houses, so they also do not benefit. It is the middle class and upper middle class that benefit from the deduction.

If the middle class is reducing their income taxes with this deduction, then who is paying the difference? It is not the poor because they pay almost no income tax (People in the lower 50% of incomes collectively pay only 3% of the total income tax collected). So the added tax burden is spread among those who do not have mortgages, but do have significant taxable income. Essentially this would be the people in the top 10% of income earners. They collectively pay about 70% of the income tax collected by the IRS.

So eliminating the Mortgage interest deduction would hurt the middle and upper middle income people with mortgaged homes, and be of benefit to the people in the top 10% income levels.

Eliminating the tax deduction would also reduce the demand for owner-occupied housing, and increase the demand for rentals. This would be welcome news for landlords everywhere.

ozajh,

Those are very good points indeed.

Fundamentally I agree with Patrick that the mortgage deduction is a housing price inflation driver. But the fact that a landlord (classified as a "business" ) will be able to deduct, no matter what, is a big downside to disallowing the owner's interest deduction. The owner interest deduction is a big "equalizer" between business owners and personal owners.

I think it is worth keeping.

The mortgage interest deduction is welfare for the rich. The marginal home buyer (outside of the super-expensive areas like San Francisco and New York) does not benefit much from the deduction since they likely do not have a lot of deductions and thus most of the interest deduction just goes to offsetting the standard deduction.

Unfortunately, repeal is politically unfeasible. Setting lower a cap could work. Set it at $35,000 and let inflation do its work so over time the deduction becomes less and less valuable to rich people. If it was pitched as making millionaires pay their fair share, it could pass.

The net long-term effect of eliminating the deduction for mortgage interest would be a reduction in taxes for the wealthiest Americans, an increase in taxes for homeowners with mortgages, a slight reduction in home prices (offset by the increased taxes), and higher rent levels.

Having said all that, I would support eliminating the mortgage interest deduction because I think it encourages and subsidizes excessive expenditure on housing by the upper income people (top 25%).

Why should the rest of us subside their extra 2,000 sq. ft? or their Hummer bought with a HELOC?

What do you think of the "Fair Tax" which is a flat national sales tax, with a rebate to those who make below a certain income?

http://www.fairtax.org/site/PageServer

They also would eliminate mortgage interest deduction. But I'm not sure if it's really progressive, or just a way for billionaires to keep more of their income.

Patrick

I believe that the best way to tax people is based on the resources they consume – rather than taxing their production. Why tax productivity?

People are mistaken when they say that a consumption tax would be regressive. It really depends on how it is applied.

The current system is less progressive than most people realize. This is because the income tax, while almost entirely paid by the rich, is then incorporated into the prices of all the goods and services we buy.

So who really pays the income tax? Indirectly, the income tax is paid by consumers!

It would be better for the poor if we had a sales tax that did not apply to the basic necessities that dominate their budgets. Currently those goods do have tax imbedded in their prices. So, shifting to a targeted sales tax would reduce the burden on the poor - and especially on the working poor.

I would not eliminate the personal income tax. But I would greatly reduce the corporate income tax, and then institute a sales tax on luxury goods. I would define luxury goods as anything other than basic needed items such as food, clothing, shelter, medicine and education expenses.

Everyone buys some luxuries, but the rich buy a ton of luxuries. Luxuries would include alcohol, tobacco, jewelry, TVs and other appliances, cars over $25,000 in price, hotel stays, restaurant meals, etc.

Politically it will be impossible to get support for this because very few people have a sufficient understanding of our economy to see how the taxes actually work through the system, and any shift to a sales tax will seem like a windfall for the rich. However, it could be done in such a way that the rich pay more, and the poor pay less.

I believe that the best way to tax people is based on the resources they consume – rather than taxing their production. Why tax productivity?

I agree. However, only consumption on true "public" resources should be taxed. Otherwise, people should just be _charged_.

If people think it is too "unfar," I will also accept a flat tax below 15%. Contrary to common beliefs, flat tax does not regress against the poor. It changes equilibrium points of the economy, allowing it to operate more efficiently.

The reason I focus the income tax reduction on corporations is that they just raise their prices to include the tax anyway.

In addition, many corporations are leaving the US to avoid the corporate income tax. They continue to sell their goods and services here, making a profit that is largely untaxed.

This is especially true for financial operations. For example, there are more banks in the Cayman Islands than there are people. This tax haven is a classic move for hedge funds. This way the rich investors pay no tax on their gains until the profits are brought back into the US (if ever).

The Companies that stay in the US have a competitive disadvantage due to tax. Jobs follow the capital. Reducing the corporate income tax would reduce this problem. A luxury goods tax could pay for this.

A luxury goods tax would add to the price people pay for luxury goods. This would be offset by a reduction in the price of all goods due to the reduction of the tax cost imbedded in current prices.

The mortgage interest deduction is welfare for the rich.

No. It is welfare for anti-development restrictionist-NIMBYists.

The reason I focus the income tax reduction on corporations is that they just raise their prices to include the tax anyway.

I think corporation should not be taxed. Or at least coporate tax should be minimal.

A luxury goods tax could pay for this.

I *hate* the concept of someone deciding how much "luxury" a person "deseves." Who is to decide? For example, a private jet may be a "luxury item" or it is an important business tool.

How can a system encorages abundance by penalizing abundance?

Flat income tax, national sales tax, consumption tax only......

Good grief, now I'm really starting to feel that a tin foil hat would do some good.

For the record, tax that penalizes a private jet is not a tax on abundance, it is a tax on FREAKING WASTE!! I don't give a rats ass whether it is "an important business tool".

Abundance is what we will have if we do not waste resources. Abundance does not mean to spend it like there is no tomorrow, abundance means to preserve so that future generations can also enjoy it.

And I find myself disagreeing with Peter P yet again, as is the case maybe 90% of the time.

"No oil left behind"
--could be a good slogan for US energy policy and practice

And I didn't make it up -- it was already on google, probably soon after the "no child left behind" law got enacted :),

For the record, tax that penalizes a private jet is not a tax on abundance, it is a tax on FREAKING WASTE!! I don’t give a rats ass whether it is “an important business tool”.

Fortunately, our policy makes do not agree with you.

A business can "depreciate" the entire cost of a jet over 5 years (part 91 ops). Better yet, after 5 years, the jet will usually worth MORE because of inflation.

What about capital gains tax and depreciation recaptures? The answer is 1031 exchanges. Sound familar? :)

NOT TAX ADVICE

Besides, what is wastage? For the same thing, some may call it excesses while some may call it abundance. Let's look at out electronics like iPods and iPhones. Do we really _need_ them? A advanced nation like this fine country ought not put value-judgement on economic behaviors.

"And I find myself disagreeing with Peter P yet again, as is the case maybe 90% of the time."

Yet Peter P is such a nice person that it's hard to dislike him.

Maybe he should be Dick Cheney's spokesperson.

I would not buy an iPhone until it goes through at least another two generations.

Personally, I think the Prada phone looks nicer. :)

I am happy with my Samsung phone. It makes calls and it is rugged.

Great quote from an Australian paper:

"[Politicians] believe they can make it easier for first-time buyers to acquire property while encouraging its value to rise faster than inflation for the benefit of existing owners."

That's it in a nutshell. They want a thing and its opposite.

Patrick

I heard a lecture by Milton Friedman back in the Nixon Phase I/II price-control days. During the question and answer period, the corporate jet question came up.

Friedman said his point was to remove tax policy effects from the conduct of business (including depreciation, boot, gains) so that businesses would concentrate on real-world costs and benefits. He had no interest in determining whether or not a corporate jet was either abundance or waste, and said his proposals permitted corporations to indulge in wasteful practices - and to reap the consequences - without the tax code entering into the matter.

That’s it in a nutshell. They want a thing and its opposite.

In short, government has no business in microeconomics. Micro-managing the economy will lead to macro-level problems.

But again, I am someone who believes social "equity" and "justice" are marketing tag lines. Honestly, nobody really knows what they mean.

Thanks for the Oz tax regime post, ajh. BTW, there's a 'summit meeting' of all state govt premiers happening right now in Darwin of all places to discuss housing affordability.

The only trouble is, they don't want to upset the huge base of voters who want to see their house prices constantly rising ahead of inflation, vs the relatively small group of Gen Y etc who are locked out of housing. It will be very interesting to see the watered down policy proposals coming out of this one. I predict more hopeless 'in the market' attempts at solutions like shared equity schemes with banks, plus a few broadsides at the Federal Coalition blaming them for allowing investment property interest rate deductions on mortgage interest, as per ajh's remarks.

It kind of reminds me of how the Oz Constitution was written -- a bunch of politicians got on a riverboat for a leisurely cruise for a few days, and all they did was take an existing document by a quiet thinker -- it was Hare or Clark -- and messed it around to take out a few lines that would upset the rich and powerful, thereby making it worse, and stepped off the boat and claimed they'd written it as a combined work of genius...

thanks also for that note, patrick... i didn't see it 'til i had posted...

p.s. Friedman was/is a complete wanker...

I see people saying the tax deduction benefits the rich, and then others saying replace it with a consumption tax, which benefits the rich because a lower percentage of the rich's wealth goes to consumption, that's why they're rich. In any case, to have an intelligent conversation, can we push class envy to the side, and have a real discussion?

First, I agree in general that there is a slight increase in valuation in considering the tax benefit so prices are a little higher than they would be. I also believe that it encourages wreckless borrowing, and takes away the incentive to pay off a house because the financially smart thing to do is to always max out the value of the house for the tax deductibility which then encourages more borrowing. (Move all debt to mortgage) This would actually be remedied if we made ALL interest deductible like it used to be.

Second, with the downward pressure on prices, it seems like unnecessary punishment to now raise the cost of ownership for people who are already on the brink. In analyzing tax strategy you want to have a net gain to tax rolls in making changes. What would the impact be to the economy to strain the middle class even more?

I know people logically call a tax break a subsidy, I tend to differentiate calling something a subsidy as being an external infusion of other people's money than just saying anytime there is a benefit it is a subsidy. I don't like emotional hot words used merely to make it seem like somehow it is corporate welfare for someone to get a tax break for owning a home. It is pretty well accepted that a society is more stable and healthy when people own their homes so even if removing the tax deduction makes sense, I am disturbed that people want to remove it merely for the reason that they think somehow it is sticking it to someone who has more than they do.

Why don't we go ahead and remove the tax deduction, but then not tax interest income. It would do the same, and would encourage savings, but oh darn it, it would benefit the rich. Forget it.

Why don’t we go ahead and remove the tax deduction, but then not tax interest income. It would do the same, and would encourage savings, but oh darn it, it would benefit the rich. Forget it.

Do we really want to encourage saving? The Great American Economy is built upon consumerism. :)

If we replace taxes with fees whenever possible either flat-tax or consumption tax should work fine.

>Besides, what is wastage? For the same thing, some may call it excesses

The waste I'm talking about is mainly oil consumption. A small business jet burns kerosene (jet fuel) to the tune of something like 1 mile (*) per gallon, for 1-4 passengers, compared to flying coach at 50-100 mpg per passenger (100mpg== boeing787). It is hugely wasteful. The resources being spent on building the jet could also be spent better elsewhere. Most business jets are just genital extenders and serve no practical purpose other than massaging big egos. Much like Hummer cars in that respect.

(*) HeadSet or someone else may have the right background to provide some accurate consumption numbers. My small jet estimate is just an estimate using some wikipedia info about a Cessna Citation small jet.

Sean,

Yeah, Friedman was a total wank. Typical theorist that either didn't understand, did not care, or perhaps _wanted_ the practical consequences of his idealized theories. Of course, the laizzes-faire right-winger types are more than happy to put Friedman on a pedestal and invoke his theories when they can smell a tax break for the rich coming out of it.

p.s. Friedman was/is a complete wanker…

Oh DS, we'll need a couple of pints when I'm in Sydney, it seems...

Malcom,

It is pretty well accepted that a society is more stable and healthy when people own their homes so even if removing the tax deduction makes sense, I am disturbed that people want to remove it merely for the reason that they think somehow it is sticking it to someone who has more than they do.

The tax break does not significantly increase home ownership and it is subsidy to the rich. People on the margin of buying a home in most communities get very little benefit from the tax break. You need either to pay a lot of interest of or have a lot of other deductions to make up for the standard deduction both of which are characteristics of rich people.

Additionally, prices just increased to make up for the deduction. While eliminating the deduction might have some negative short run consequences, a cap that blocked rich people from deducting large amounts of interest on their multi-million homes seems much fairer than poor people subsidizing the mansions of rich. You might not like the word of subsidy but any economist will tell you that is exactly what a tax break is. There is zero difference in economic terms between a tax break and a check from the US Treasury.

MiC

While I don't agree with Friedman on a vast many things, he's right about not caring about corporate jets. Congress is a bunch of wankers as well and anybody who things that Congress can pass regulations to effective control corporate spending just hasn't been paying attention. If you are concerned about jet fuel, tax that, don't mess with the general tax code. Directly raising the price of any good through taxation will get people to use less of it.

If you are actually concerned about corporate waste, get Congress to bar poison pills and other takeover defenses. Private equity firms will get rid of wasteful spending faster than you can blink. Anti-takeover state laws have made hostile bids all but impossible in the US . These measures benefit management at the expense of shareholders. Market discipline is always more effective than Congress can be.

I'm only making hit-and-run Zen Socialism remarks on patrick.net from now on, I've decided... forget the in-depth analyses and critiques, backed by copious references and showing staggering insight and profundity...

I might make justme my drinking buddy, Randy ;)