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July 29, 2014

Mortgage Tax Breaks Help Wealthy Buy Larger Homes

Wall Street Journal: “Federal tax benefits for homeowners primarily help wealthier people borrow more money to buy larger houses rather than boost homeownership, according to a new study” by the R Street Institute.

“The study estimates that tax preferences, particularly the mortgage-interest deduction, have helped drive up the size of houses by as much as 18% in the nation’s most affluent areas while not broadly encouraging people to buy homes.”

“Tax benefits for owner-occupied homes generally accrue to a minority of households. Homeowners with incomes above $100,000 were between three and four times as likely to claim the tax benefit as those earning less than $100,000.”

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  • embo66

    The graph proffered here seems pretty meaningless. Because du-u-u-u-h: If you have a huge (or new) mortgage, you’re going to benefit “more” — in actual dollars — than someone with a smaller (or older) mortgage. And the richer you are, the more expensive the house and mortgage interest you can afford to begin with.

    What is surprising is the paucity of homeowners who bother to take their mortgage interest deduction. In 2010, only 25% of households claimed it, even though 67% of households owned a home. So clearly, the mortgage interest deduction bears little direct relation to goosing actual home ownership.

    But I would assume the real culprit here is widespread ignorance of tax basics. Are rich people more knowledgeable than the less rich? Possibly (higher ed attainment + a greater interest in money are conceivable here). But again, the wealthier you are, the more likely you are to 1) hire a tax accountant to prepare your taxes and 2) subsequently take advantage of every tax break available.

    Seems to me this is THE key difference here, not annual income, per se.

    • heropsycho

      It’s mostly not because of ignorance. It’s because the less you make, it makes less sense to use it. The smaller your mortgage, the less interest is paid, and the smaller deduction it is. The less you make, the less taxes you pay from which you deduct. It’s a combination of all those things.

      The only way to utilize the mortgage interest rate deduction is if you itemize instead of the standard deduction. If the standard deduction is more than your paid in taxes first of all, then it literally can’t do you any good.

      Let’s take a married couple who makes $50,000 a year, and a $150,000 mortgage with a 5% interest rate. They roughly paid $8000 in interest, gave $1000 to charity, and they live in Florida, who doesn’t have a state income tax, which is also an itemized deduction.

      Right off the bat, the standard deduction is $12,400, so itemizing makes zero sense. They didn’t benefit at all from the mortgage deduction.

      OK, so let’s move them to a state that does have an income tax. No way they’re gonna pay much in state income taxes. They need another $4400 in deductions JUST TO BREAK EVEN on itemizing. They’re likely not gonna pay that to even get anything out of itemizing.

      Now, on top of all that, you have to be pay a lot of income tax to get a deduction from it to have any benefit. The more you take advantage of tax breaks, the less you get out of it generally speaking.

      The reality is tax breaks like 401k, traditional IRA, FSA, all that stuff favors the rich. And for lower income families going into solid middle class families, the mortgage deduction is overrated.

      Let’s take a family earning $125,000/yr. They paid $8000 in state income taxes, and had the same mortgage interest of $8000, and they gave $4000 to charity, totalling $20,000 in itemized deductions, so they itemize. But they also used FSA, 401k, IRA, etc.

      After FSA, 401k, IRA, etc, their taxable income islet’s say $110,000. Their itemized deductions are $20,000. They’ll be taxed now as if they’re making $90,000, so since that $20,000 is in the 74000-113000 bracket, that’s at a 28% rate. So they saved for the mortgage $8000*28% = $1600 in taxes

      Take that $4000 charitable donation away, and now they don’t benefit as much. $800 instead because they could have just used a standard deduction. If they lived in Florida and didn’t have $8000 in state income taxes? They don’t benefit at all!

      So it’s not a matter of ignorance as it is, depending on your circumstances, you may not benefit from it anyway.

      • embo66

        I see all of what you’re saying — and I stand corrected: It probably isn’t ignorance which leads many households to not itemize; as you say, they just don’t benefit enough from doing so. And we agree that — as with nearly everything else — tax breaks do indeed favor the rich, in part simply because they have more wealth to to work with and to farm out into breaks and shelters.

        However, your preference for using married couples as examples is a wee bit misleading, methinks; there has been a pronounced increase in both single head-of-household and unmarried singles over the last 20 years. For these people, the standard deduction is often below what they could deduct when itemizing, esp. since that opens up a lot of other potential deductions besides mortgage interest.

        I do know that I started itemizing on my taxes the minute I bought a house because it WAS a bigger savings — for years — than my standard deduction. And since then I’ve refinanced several times for various reasons — and so itemizing still brings me greater benefits. I can’t imagine I’m all that unique, either.

        • heropsycho

          I used a married couple example because I know that situation personally. It was never meant to mean I’m more typical than the average person.
          But, I do stand by the fact that even when you factor in single vs married, there are circumstances to some degree beyond your control that impact whether or not you can take advantage of the interest deduction, such as whether your state collects an income tax, etc.
          I also disagree that the rich necessarily benefit more because they can farm out into breaks and shelters. Yes, that happens, but they wouldn’t have to do that to get the break anyway. Before you even get to that point, since deductions come “off the top”, they automatically benefit because they’re in a higher tax bracket. And, to be quite honest, they should benefit more from a deduction than lesser income people *when they should qualify for a deduction*. This is because they’re paying a higher rate of taxes than people making less.
          I just want to be clear – I am not saying higher income earners deserve more tax breaks, I’m just saying that if society deems something to be worthy of a deduction, those who pay higher rates should benefit more since they pay more in taxes.
          I’m personally torn about whether mortgage interest should be deductible, partly because what is suggested in this article as a driver for me to think it shouldn’t be, even though I do personally benefit from it.

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