Mortgage tax deductions - Arguments for eliminating them

Mortgage interest tax deductions may be dropped from the tax code. Here’s why.

Buying a home is usually the most expensive thing people will ever do. More often than not, homeowners take out a mortgage that will take thirty years to repay. When the interest is added to the principal, the amount repaid to the lender will usually amount to twice the purchase price of the house. This would leave housing out of the reach of most people, but for decades, the Internal Revenue Service has allowed taxpayers who own homes to deduct the interest paid

 on their mortgage from their taxable income. For taxpayers in the 28% tax bracket, this amounts to a rebate of 28% on the interest paid.

This may be coming to a close soon, as a Federally-appointed panel is examining the tax code in order to simply it. One of the panel’s recommendations is to eliminate the deduction altogether and replace it with a 15% tax credit. In a previous article, we discussed the benefits of the mortgage interest tax deduction. Now we’ll look at the other side and see if there may be some good reasons in favor of eliminating it.

The current system is regarded as a sacred cow by the mortgage and real estate industries, but is it really all that important? The current system is heavily weighted in favor of the wealthy over the middle class and poor.  Someone in the 33% tax bracket with a $15,000 deduction will receive greater tax savings than someone in the 28% bracket. Someone who rents instead of owns will receive nothing, despite the fact that that person may be paying as much, or more for living expenses than someone who owns a home.

Furthermore, most people in the 28% tax bracket don’t even itemize. In order to receive the full benefit of the tax break, a taxpayer has to itemize their deductions. In order to do that, the deductions must exceed the standard deductions. For most taxpayers in the $20,000-50,000 range, they do not, so the mortgage interest deduction isn’t used. For anyone earning $200,000, though, the tax deduction comes into play, and at a higher tax rate, too.

The proposed changes will include a 15% tax credit. This would amount to 15% of the interest, deducted directly from the income taxes owed, rather than from taxable income. This amount would be the same for anyone, with any income level, thus creating a more equitable playing field.

It remains to be seen whether this change will occur any time soon. The lending industry is a powerful lobby and has a lot of influence in Congress. If it fails, it won’t be the first time that a plan to simplify the tax code has been scrapped in order to satisfy special interest groups. Most taxpayers, though, would probably benefit more from the passage of the changes than from the continuation of the existing policy.