Repeal Housing's Mortgage-Interest Deduction

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Though a house, therefore, may yield a revenue to its proprietor, and thereby serve in the function of a capital to him, it cannot yield any to the public, nor serve in the function of a capital to it, and the revenue of the whole body of the people can never be in the smallest degree increased by it.” – Adam Smith, Wealth of Nations

When tax simplification is discussed, repeal of the mortgage-interest deduction is frequently targeted as a potential casualty of the process whereby marginal rates would be both simplified and reduced. Though many homeowners would likely protest such a change in the tax code, repeal would be dynamite for the U.S. economy.

The mortgage-interest deduction harms our economy in many ways. For one, it constitutes relief for one segment of society at the expense of those who choose not to own a home. Those who don’t are forced to subsidize homeowners through theoretically higher rates of taxation on income. Considering the static approach those in Washington take to tax cuts and tax increases, the revenues “lost” due to the mortgage deduction make it more difficult for Congress to reduce marginal tax rates. So in a sense the tax relief brought about by the deduction reduces the economy’s overall vitality through greater penalties levied on actual work.

And since deductions on interest payments help to reduce the effective tax rate of many Americans, there exists less of a push to bring all manner of tax rates down altogether. Indeed, if certain segments of our society don’t feel the sting of taxation, how can we expect them to take up the cause of reducing taxes?

When the present housing moderation is considered, the mortgage deduction made buying a home more attractive such that owners themselves have become a powerful voting block. With politicians ever eager to solve problems with the money of others, fear of the special-interest group that is homeowners has engendered a variety of bailout proposals that will be funded on the backs of taxpayers whether they own or not.

Perhaps worst of all for our economic health, the mortgage-interest deduction drives capital away from the productive sector of the economy, and into the ground. 19th century economist John Stuart Mill called the latter “unproductive investment,” whereby capital is consumed rather than offered up as investment. This should concern all Americans, because to the extent that tax incentives create individual preference for consumption over savings, investment lags, and with lower investment comes lower wages.

Assuming a repeal of the mortgage-interest deduction without tax simplification, would this be so bad? Many might assume it would be in the sense that effective tax rates would rise. It’s a fair point, but that’s merely the “seen” in the concept being discussed.

Unseen once again is that with housing no longer receiving preferential treatment, individuals would be far more likely to save and invest in ways that would accrue to personal earnings. And while the direction of the dollar is the biggest driver of nominal home prices, the theoretical fall-off in demand for housing would lead to lower prices that would enable what is an unproductive asset to be purchased with a smaller percentage of total individual wealth.

Unseen also is that any presumed drop in home values would not only be made up through increased pay, but through increased wealth brought about by greater overall demand for traditional investments such as stocks and bonds. This of course flies in the face of conventional economic wisdom incorrectly suggesting that our economy is reliant on exorbitant home prices.

In answer to those who’ve bought into the charitably absurd notion that rising real-estate values are stimulative, think back to the ‘80s and ‘90s when housing greatly lagged the equity markets, and voters were much happier. It can’t be stressed enough that housing does best when the dollar is weak. In short, it’s an asset class that thrives in times of inflationary pressure; inflation correlating very well with recession. If that's not enough, consider that housing boomed under Presidents Nixon, Carter and George W. Bush. All three were or are unpopular. Think about it...

Returning to the tax implications of repeal, forgotten in the mortgage-interest discussion is the basic truth that stationary assets such as houses are easy to tax. Put simply, humans are mobile and can easily flee tax tyranny, houses aren’t and generally can’t.

Indeed, the “seen” when mortgage-interest deductions are considered is the tax advantage gained by those who’ve taken out mortgages. The “unseen,” however, is the ease with which local governments are able to capture gains achieved federally with confiscatory rates of taxation on property. Sure enough, according to a story in USA Today, property-tax collections rose 7 percent in 2006 to a record $377 billion. When local taxes are brought into the equation, effective rates of taxation rise substantially thanks to the greedy hand of local government.

The mortgage-interest deduction and all manner of housing subsidies distort investment in ways that reduce our pay, keep our rates of taxation higher than they might be, and make housing marginally less affordable for those who don’t yet own, but would like to. So while any attempt at repeal would generate all sorts of sky-is-falling protest, an end to the subsidy would pay great economic dividends that would accrue to everyone, not just the special interest that is today’s homeowner.

John Tamny is editor of RealClearMarkets, Political Economy editor at Forbes, a Senior Fellow in Economics at Reason Foundation, and a senior economic adviser to Toreador Research and Trading ( He's the author of Who Needs the Fed?: What Taylor Swift, Uber and Robots Tell Us About Money, Credit, and Why We Should Abolish America's Central Bank (Encounter Books, 2016), along with Popular Economics: What the Rolling Stones, Downton Abbey, and LeBron James Can Teach You About Economics (Regnery, 2015). 

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