Protecting the mortgage interest deduction as part of tax reform

October 30, 2017 Ben Gann

nlbmda-logoThis fall the Trump administration and Republican leaders in Congress are working on a major overhaul of the tax code. It would be a major achievement, as the last major overhaul of the tax code occurred in 1986. Despite stating earlier this year that it would not lower the cap on the mortgage interest deduction as part of comprehensive tax reform, it now appears the White House is considering lowering the cap.

The about face on the mortgage interest deduction by the White House comes as they look to offset the amount that any tax cuts add to the federal budget deficit. Congressional Republicans have shelved a plan to place a 20% tax on imported goods and services known as the Border Adjustability Tax (BAT).

While tabling the BAT is good news for retailers, it places pressure on the Trump Administration and congressional Republicans to find revenue lowering the overall cost of a tax reform package. According to the Tax Foundation, lowering the cap on the mortgage interest deduction to $500,000 would generate an additional $319 billion for the federal government over 10 years.

Under present law, homeowners may deduct interest from up to $1 million of acquisition mortgage debt and up to $100,000 of home equity loan debt. These amounts were set in 1987 and have not been adjusted for inflation. Lowering the cap on the MID would be harmful to home owners, the housing market, and the nation’s economy. The mortgage interest deduction has been part of the tax code since its inception in 1913 and is the cornerstone of American housing policy.

The deduction is a middle-class tax break and is particularly beneficial to younger households and larger families. Nearly two-thirds of the benefits of the mortgage interest deduction are claimed by those earning less than $200,000. Yet these same taxpayers pay only 43% of all income taxes, meaning these deductions make the tax code more progressive and fair.

If the mortgage interest deduction is reduced or eliminated, after-tax housing costs would increase, and demand for housing would decrease. In turn, reduced demand would depress home prices, producing a sizable loss for existing home owners. Such a change in home values could weaken the economy and perhaps even drive the nation’s economy back into recession.

To better understand the benefits of the mortgage interest deduction, consider the following. A family with a joint income of $80,000 and a mortgage of $180,000 at 5.5% interest will save $7,050 in the first five years of home ownership. The amount of the deduction declines slightly each year as the interest payment drops and the loan principal payment increases.

The deduction is particularly helpful to younger and recent home buyers, who are paying more interest in the early years of a mortgage. According to a National Association of Realtors survey, the median first-time buyer is 32 years-old (tying an all-time high), has $72,000 in household income, and purchases a home for $182,500.

As first-time home buyers are older than they have ever been, modifying the mortgage interest deduction would make purchasing a home even more challenging for prospective home owners. In 2014, 33.6 million households claimed the deduction with an average tax savings of $2,660.

Concerning the timing and procedure of tax reform, congressional Republicans are expected to use budget reconciliation as a way of moving the legislation. That would permit the Senate to bypass certain procedural hurdles and allow a simple majority to approve a tax overhaul package.

The downside to using reconciliation is that at least some of the tax cuts would have to lapse within 10 years to comply with the Byrd Rule, a Senate rule that prohibits budget reconciliation provisions increasing the deficit beyond 10 years.

For historical perspective, the tax reform laws enacted in 2001 and 2003 under President George W. Bush used budget reconciliation, and many of those provisions were later extended and then made permanent.

It is not clear though if Congress will be able to use budget reconciliation to pass tax reform. Congress has not yet approved a Fiscal Year (FY) 2018 budget. In order to use budget reconciliation as a vehicle for tax reform, Congress must approve an FY 2018 budget. Not being able to use budget reconciliation would substantially complicate the prospects for tax reform.

NLBMDA is engaged on the future of the mortgage interest deduction, remains steadfast in its support of it, and opposes efforts that would eliminate or substantially modify it. Dealers are encouraged to visit NLBMDA’s Legislative Action Center to contact their Representatives and Senators to preserve the mortgage interest deduction.

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