Rethinking Homeownership Subsidies

By :: January 6th, 2014

Tax expenditures for homeownership, such as deductions for mortgage interest and property taxes and the partial exclusion for capital gains on the sale of a primary residence, have long been recognized as ineffective, regressive, and extraordinarily expensive—costing $121 billion in 2013 alone. Until now, most reforms—including the Bowles-Simpson deficit-reduction plan—have focused on restructuring the mortgage deduction into a flat-rate credit. But what if we largely replaced the deduction with incentives to buy a house, rather than to run up a lot of mortgage debt?

In a new Tax Policy Center paper, my TPC colleagues Gene Steuerle, Amanda Eng, and I examine three very different tax subsidies for housing. Instead of encouraging people to borrow, they would create incentives for homeownership without tying tax breaks to mortgage debt. Each would be financed by eliminating the deduction for property taxes paid and capping the mortgage interest deduction at 15 percent. Thus, none would add to the deficit over 10 years. Here, briefly, are the three options:

  • A permanent First-Time Homebuyers Tax Credit, similar to the provision temporarily in effect during the Great Recession. The credit—$12,000 for singles and $18,000 for married couples—would give new homeowners a one-time lump sum subsidy in the year they purchased a home. The credit would be refundable, allowing households with low income tax burdens to claim the full value of the credit.
  • A flat annual subsidy for homeowners. Taxpayers could claim the credit—$870 for singles and $1,300 for couples—in any year in which they owned their home. The credit would be refundable and would phase out for upper-income households.
  •  An annual 36 percent flat-rate credit for property taxes paid, up to a maximum of $1,400 for single filers and $2,100 for couples. Like the other alternatives, the credit would be refundable.

Each would offer homeownership subsidies to a wide range of taxpayers, rather than concentrating the benefit on those with high-incomes who itemize deductions. All three would raise after-tax incomes for the bottom 80 percent of taxpayers while trimming after-tax income for the top 20 percent. And each would raise housing values by about 1 percent by lowering the after-tax cost of housing investment.

They also are more in line with economic arguments for subsidizing homeownership. Economists justify these tax subsidies on two grounds: 1) homeowners have a financial investment in their neighborhoods and therefore work to maintain them and 2) homes contribute to asset accumulation, and therefore to higher saving that provides greater security when incomes fall, such as when people lose jobs or retire. In contrast to current preferences, which are worth more to those with higher mortgage debt and in higher tax brackets, these alternatives tie the value of the subsidy more directly to homeownership.

None are perfect. For example, the First-Time Homeownership Tax Credit does not reward long-tenured homeowners, the annual tax credit does not reward upper-income homeowners, and the property tax credit would probably cause local property tax rates to rise.

The social value to homeownership may or may not be worth more than $100 billion-a-year in government subsidies. But regardless, if the goal really is to encourage people to buy homes, any of these alternatives would be superior to the current deductions for mortgage interest and property taxes.

12Comments

  1. Elliott Dubin  ::  11:48 am on January 6th, 2014:

    There are arguments that can be made that the government should not subsidize home ownership, via the tax system; or by any other means. The first objection is that it is possible that too much of the nation’s capital is devoted to the production of own-occupied homes rather than other productive investments. Moreover, the subsidization of home owners hip could result in unwanted sprawl which can result in environmental degradation. Moreover, homebuyers may take on more debt than is prudent leaving them at risk if home prices decline; and, home ownership may result in greater friction I labor markets if home owners cannot move long distances to take advantage of job opportunities elsewhere. These subsidies can induce purchaser to buy bigger homes than would be optimal — the ultimate beneficiaries of the benefits would be current land owners, current home owners, and those engaged in the home construction industries.

  2. AMTbuff  ::  1:41 pm on January 6th, 2014:

    Because any change in tax benefits is quickly capitalized into home prices, dramatic reduction in tax benefits would need to be phased in gradually. The time to do this is when property prices are rising rapidly, as they are now. There are also sound arguments for allowing existing homeowners to retain their current level of tax benefits until they sell the home. Otherwise there will be some owners on the edge who are forced to sell because of the loss of tax benefits.

  3. Secondary Sources: Summers on Growth, Intergenerational Mobility, Homeownership Subsidies – Real Time Economics – WSJ  ::  9:25 pm on January 6th, 2014:

    […] –Homeownership Subsidies: Ben Harris looks at changing tax expenditures for homeownership. “Tax expenditures for homeownership, such as deductions for mortgage interest and property taxes and the partial exclusion for capital gains on the sale of a primary residence, have long been recognized as ineffective, regressive, and extraordinarily expensive—costing $121 billion in 2013 alone. Until now, most reforms—including the Bowles-Simpson deficit-reduction plan—have focused on restructuring the mortgage deduction into a flat-rate credit. But what if we largely replaced the deduction with incentives to buy a house, rather than to run up a lot of mortgage debt?” […]

  4. Michael Bindner  ::  1:13 am on January 7th, 2014:

    To a large extent, the incentive to buy homes is actually an incentive to have an grow a family – to expand the population. Given the existence of intergenrational income and health care transfers from the young to the old, transfers to families with children provide a balance and serve to maintain a tax base by producing more consumers and workers to fund retirees (indeed, retirees who own stock are largely funded by profits from the purchases of the young as well as their labor – and the soon to disappear labor of the Chinese – who will eventually decide not to export their labor to us in exchange for debt). The real answer is to chuck both the home mortgage deduction and any other supporting credits and to give families $1000 a month for each child as part of refundable credits shared between state and federal governments. Plenty of houses will be purchased by these expanding and well funded families. (and, yes, the credit would be indexed for inflation).

  5. Tax Roundup, 1/7/2014: Koskinen proposes voluntary IRS preparer certification. And: Obamacare, small business incubator? « Roth & Company, P.C  ::  9:50 am on January 7th, 2014:

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  6. Roadsailor  ::  11:20 am on January 7th, 2014:

    True capitalism and democracy do not require that an Income Tax be the rope that juggles the economy. Let Freedom reign, and let the citizens
    make their own decisions based purely on their own economics.

    Then, the only pure and fair tax is the Fair Tax, a federal sales tax on new retail products. When all forms of the Federal Income Tax are ended, the price of EVERY retail product will go down between 15 and 22%. When you add back in the Federal Sales Tax, the new total sales
    cost is the same as the original price with the Federal Income Tax, BUT all Buyer now have their entire paycheck in their pockets.

    Check out the Fair Tax. It is already in the Ways and Means Committee headed by Dave Camp. We need this total reform of the Federal Income Taxes to get this economy moving, and exports increasing.

  7. Jack Gallagher  ::  5:35 pm on January 8th, 2014:

    Mr. Harris’ “study” is dubious at best. The assertion that their credit scheme would cause home prices to rise 1% annually from current levels is a broad claim with no detail in this piece. The fact that the credit is unavailable to higher income bracket taxpayers has the “whiff” of the notion that: rich people don’t need tax incentives to pay a lot of money for an expensive home. But that is nonsense. There are bands of the housing market that would get killed in terms of home price. Mortgages of $1.1 million or less (down to about $400,000) are only affordable to people in these high income brackets – and the prices of such homes are currently supported by the mortgage interest deduction. Without a new arbitrary ceiling to the mortgage interest deduction AND without the new credit (which would be phased out for them because they make too much money) such taxpayers’ purchasing power for a home has just been crushed by a significant margin (if not by an order of magnitude). One can easily see a sharp decline in higher end home prices (and a glut of supply) along with a shortage of homes costing less (and increase in price at the margin) that such taxpayers must downgrade to due to affordability. People stuck in already owned higher end homes that were living paycheck to paycheck (and I would argue that is most of such homeowners) will now suffer the double whammy of not being able to make their “ends meet” monthly and also have a house that is underwater to the underlying debt.

    And this doesn’t even begin to take into account the effect that introducing a complicated credit scheme (which most taxpayers won’t know how to take advantage of until their tax returns are filed) will have on people’s enthusiasm to apply for a loan – when the gross value of such a loan that they can qualify for is significantly reduced. If a taxpayer can’t make use of the credit either up-front or each month that they make a mortgage payment, you will have reduced purchasing power, plain and simple.

    The mortgage and real estate tax deduction has been in the past justified by politicians due to their view that such “social engineering” is vital because they think that the government has “a compelling interest” in encouraging home ownership. Mr. Harris’ scheme attempts to imply that his structure wouldn’t affect that concept in any basic way – and that its effects would be “neutral” over all. But neutral “over all” doesn’t mean zero effect. It means that some folks will benefit at the expense of others.

    What this boils down to is a sly attempt at benefitting owners of lower priced homes while pinching the owners of higher priced homes. In other words, it’s not enough that the mortgage interest deduction was eliminated for homes costing more than $1.1 million (that’s been the case for quite a few years now). We now MUST take away the tax incentive for people who buy homes costing more than $X (where X is the breakeven point of Mr. Harris’ new scheme.

    This is not an attempt to better align economics within the housing market; it is instead yet another wealth redistribution attempt. It’s silly, it’s getting a bit old, and it’s boring. I wish folks like Mr. Harris could be more honest about their intent, instead of trying to hide it with bells and whistles.

  8. Housing Policy is not about Housing | askblog  ::  9:28 am on January 10th, 2014:

    […] Ben Harris asks, […]

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    […] and epoch of regulatory capture. Arnold King writes Housing policy is not about housing. Ben Harris asks, what if we largely replaced the [mortgage interest] deduction with incentives to buy a house, […]

  10. The Economy Is Not About To Go Boom … The Economy Is About To Enter A Deflationary Bust …. And As A Result There Will Be Economic Experience In Diktat Money As Nannycrats Declare Diktat Policies Of Regional Governance And Establish Debt Servit  ::  10:25 pm on January 11th, 2014:

    […] and epoch of regulatory capture. Arnold King writes Housing policy is not about housing. Ben Harris asks, what if we largely replaced the [mortgage interest] deduction with incentives to buy a house, […]

  11. Potential home ownership subsidy changes would flatten Coastal California house prices » ochousingnews  ::  2:17 pm on February 25th, 2014:

    […] Rethinking Homeownership Subsidies […]

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