In 1984, President Reagan declared that simplifying the tax code was a priority. Only one part of the code was untouchable: The mortgage-interest deduction, or MID.
Reagan instructed the Treasury Department to “preserve that part of the American dream which the home mortgage interest deduction symbolizes.” When it came to tax law change, the MID, established in 1913, was a sacred cow. And it has continued to be to this day.
That’s why when the House Republicans released their long-awaited tax proposal on November 2, it was surprising and controversial that the plan proposed cutting the mortgage-interest deduction. The draft bill would cut the MID sacred cow in two ways: It would double the standard deduction, limiting the motivation to itemize for homeowners of modest means. At the same time, the cap on qualifying mortgages would drop from $1 million to $500,000, effectively eliminating the MID for most wealthy homeowners.
Predictably, realtors and home builders’ groups slammed the proposal, calling it an unacceptable tax hike on middle class families living in expensive areas, like D.C. and San Francisco. “The nation’s 1.3 million Realtors cannot support a bill that takes home ownership off the table for millions of middle-class families,” said William Brown, president of the National Association of Realtors, in a statement.
Source: Robert Shiller. Heavy solid line (left scale): real (inflation-corrected) home price index, 1890 = 100. Thin line (left scale): real building cost index, 1979 = 100. Thin line (right scale): U.S. population in millions. Lowest thin line: long-term interest rates.
And according to Shiller, the forces driving real estate appreciation have little to do with MID. In an interview with CNBC, Shiller noted that: “Most homeowners don’t claim the deduction and instead use the standard deduction.” He believes lowering the cap would have more of a minor psychological effect on home prices than a calculated one.
According to Shiller, the factors driving the real estate market are mainly behavioral — and that the interest rate deduction, which is limited to a small subset of homeowners, is insignificant in comparison. He believes that most people don’t base home ownership on tax-savings calculations — there are “bigger things” driving their decisions. Home buyers view home ownership as a secure way to build wealth, and recent housing gains have only reinforced this belief.The MID is mostly symbolic, he argues. “It is part of American culture. It goes back to the American dream,” Shiller said. “It stands for something — the government is behind the homeowner.” Still, in the big picture of the housing market, Shiller sees cutting the MID as a non-event.
However, simple math doesn’t back up the NAHB’s concerns: