Impact if mortgage interest tax deduction was abolished?

Question

Economically speaking, what would the LONG TERM (after the dust settles) effect be if the tax deduction for mortgage interest were removed?

Answer 1

The principal benefit of the mortgage interest tax deduction is a cash flow bonus at fiscal year-end, which indicates that those wishing to purchase property would have to establish a stronger cash flow in order to do so, thus decreasing the volume of sales in the housing market.

It is nearly impossible to tell the overall result this would have on housing prices (a slowdown in increase, or an actual downward pressure) or on mortgage rates (ditto), because of the complexities of both markets.

The only certain result would be a decrease in activity in the housing market, and likely a decrease in charitable deductions (since these are of little tax benefit to people who don't enjoy the mortgage interest deduction).

I'd like to think there'd be a drastic increase in affordability of housing, but I think too many structural shifts (size of housing, ease of use of infrastructure for commuting, etc) would have to take place for this result to occur.

Answer 2

The prices of houses include the present value of the tax deduction. That is, when I'm thinking rationally about buying a house, I take the true value of the house and add on to it the value of the future tax deductions.

So, if the law was changed to eliminate this deduction, then the price of houses would fall sharply. This would make new houses cheaper, but there would be no tax subsidy, so the demand for housing would drop. Also, people who currently own their houses would feel poorer, because of the loss in value of their property.

It's really hard to say how it would affect things 10 or 20 years down the road. Houses would be cheaper, but the demand for housing would also be lower. Renting would look more attractive, so there could be a substitution away from owning toward renting.

Answer 3

Difficult to say, but probably an induced trend toward less lavish homes and a smaller percentage of American's incomes spent on housing. Since housing is the number one economic lever in the economy the overall effect would be .........ahhh! BAD!

Can you say depression?

Answer 4

There would be a significant hit on the incentive to own a home.

Long-term, you'd likely see more people renting; which would consolidate property ownership to fewer people. Many economists, such as De Soto, have pinpointed property ownership as a key to economic growth.