Tax Reform – Limit of Mortgage Tax Deduction

A committee appointed by President Bush has come up with an alarming recommendation. They want to limit the tax deduction for mortgage interest!

Reform

Following his re-election, President Bush set up an aggressive agenda in which he hoped to reform social security and the tax code amongst other things. As with many things in the political world, this sounded easier done than it really was. With social security, political forces have forced the President to pull back from private accounts. With tax reform, a similar political and practical mistake is being made.

Limited Deduction

The bipartisan tax reform committee appointed by President Bush is making a mess of things. They are proposing the elimination of the Alternative Minimum Tax, which is clearly a good thing. Unfortunately, they are also proposing a limit on the tax deduction you can take for mortgage interests.

Although the final recommendations are not yet published, leaks have led to the belief the tax reform committee is going to propose the mortgage interest tax deduction be limited to the percentage of any loan that the Federal Housing Administration would write. Put another way, you would only be able to write-off interest on the first $315,000 of a mortgage! On top of this disaster, the committee is proposing to eliminate the deduction for property taxes.

Economic Disaster?

The implementation of the above recommendations would be an economic disaster for the United States. The real estate industry would suffer incredibly and the real estate boom would become a bust.  In many parts of the country, a single family home averages well over $315,000. In San Diego, the average cost of a home is in the $600,000 range. To get into such homes, many families apply for interest only loans to make ends meet. If they lose half of the interest deduction, default will not be far behind.

Once again, we are faced with a situation where politicians just don’t get it. Our housing market is incredibly strong and they want to throw a wrench in the process. Developers and homeowner associations have vowed to fight this “tax reform”. You should as well if losing half of your deduction troubles you.

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Honey, I Shrunk The Mortgage Interest Deduction – Plan 1

The political landscape this year has been nothing but ugly. It promises to come to full boil with the proposed tax reform eliminating or reducing the mortgage interest deduction.

Tax Reform or Raising Taxes

There is an old saying about the two political parties. Democrats raise taxes while Republicans reform taxes. In both instances, we end up paying more money. In a very brave move, a bipartisan committee is recommending tax reform that goes after the beloved mortgage interest deduction.

The committee looking into tax reform was given a directive by President Bush to simplify a tax code that is universally agreed to be a disaster area. You may not realize it, but two additional sections are added to code every day on average. One of the particular problems is the Alternative Minimum Tax, which was originally designed to keep super wealthy people from avoiding taxes. Because it was written poorly, the AMT now affects a large percentage of people. The problem, however, is how do you get a make up for a tax that produces millions of dollars in revenue for the government?

The committee’s answer is to go after the mortgage interest deduction. The committee has offered two plans and we’ll look at the first one here.

In the first plan, the mortgage interest deduction would be reduced to a figure related to the loan amount the FHA will back. The FHA was set up to help low income individuals get homes, which means the effective cap on the deduction would be very low. In San Diego, the average single-family home costs in excess of $600,00. The FHA cap for the city is around $315,000, which means homeowners would lose approximately half of their deduction. In expensive real estate areas, this will mean many people will lose the ability to make their mortgage payments, which means defaults. With borrower defaults will come the end of the housing market boom. The loss of equity will, of course, cause many people to go upside down on their loan, which will be another disaster.

If Congress pursues a cap on the mortgage interest deduction, chaos will reign. It is hard to imagine this option being adopted by the politicians.

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