In coming months, Congress will begin an epic struggle to get the federal budget deficit under control. One tax break almost certain to come into play is the mortgage interest deduction.
Both President Obama and his Republican rival, Mitt Romney, have suggested ways to scale back the deduction's value for wealthy taxpayers. And many economists are cheering them on, saying that now — when interest rates are low — would be a great time to reduce or even phase out the deduction.
"If we are going to have a serious effort at reform, this will have to be considered," said Mark Luscombe, principle federal tax analyst with CCH Group, a tax services and software firm.
But no matter how much candidates and economists may want to push for changes to the mortgage interest deduction, many members of Congress will remain wary.
Think about it: Not every congressman has a steel mill in his district, or a wheat farm or shipyard. But every district has a Realtor and someone who builds homes and a banker who wants to lend money. "This deduction has been with us for a very long time, and the [real estate] industry lobbies heavily for it," Luscombe said.
For a century, Congress has been allowing taxpayers to lower their annual federal tax bills by deducting the cost of the interest payments made on mortgages.
'They All Take The Deduction'
The congressional Joint Committee on Taxation estimates about 34 million taxpayers take the deduction. Most people save roughly $600 annually by doing so. For many, that's the only big tax break they can get, and they love it. A Gallup poll last year found that 6 in 10 Americans oppose eliminating the deduction to help solve the budget deficit problem.
"Most everyone who buys a home gets a mortgage," Luscombe said. And among those who pay taxes and qualify, "they all take the deduction," he added.
People in the housing industry love it too. Realtors, mortgage brokers, homebuilders and other say that the deduction encourages people to buy, rather than rent. They say Congress must continue to provide the tax break to help the battered housing sector.
"The housing market is far too fragile to sustain any tax increases," Ron Phipps, 2011 president of the National Association of Realtors, told Congress in a letter last year. Even considering a phase-out of the tax break "would send the wrong signal," he said.
A Pricey Perk
But the deduction, which can be taken on up to two homes, is a pricey perk for homeowners at a time when the federal budget deficit is enormous. The deduction shrinks government coffers by about $83 billion a year, according to Congress' taxation committee.
Supporters say that's a small price for government to pay to encourage Americans to own property. A home is the single largest investment most people will ever make, and broad-based ownership helps build a large middle class of property owners, according to the Realtors' association.
A strong housing market offers "long-term social and financial benefits to individual homeowners," the Realtors said in a research paper. Areas where people own homes have better educational outcomes, more civic participation, lower crime and other benefits, the trade group says.
But critics say the Treasury can't afford the deduction, and in any case, it's bad public policy because it encourages people to take on too much debt, discriminates against renters and favors people with upper incomes.
Driving Up Housing Costs?
Conservative Joseph Farah, author of The Tea Party Manifesto, recently wrote in a column: "It makes perfect economic sense to get rid of the mortgage-interest deduction. It seems like a benefit to homeowners carrying mortgages, but it actually is one of many factors driving up the cost of housing, the scarcity of mortgage loans and interest rates."
Romney is suggesting setting a dollar limit on deductions for each tax filer who itemizes. One number he tossed out in the first presidential debate was $25,000 a year. "Anybody can have deductions up to that amount," he said.
In other words, individual taxpayers could decide which deductions they want to take, but only up to the cap. So, some filers might choose to take the mortgage deduction, while others — say, seniors who rent — might want to take deductions for charitable giving, municipal bond interest payments, etc. They could have all the deductions that work best for them, up to the limit. Wealthier people, especially those with two homes, would hit the cap quickly, so Romney's proposal would trim the value of the deduction for them.
A Campaign Issue
Obama is taking a somewhat different approach, saying he would protect the tax break for people in the middle income brackets, but eliminate it for those taxpayers making more than $250,000. "I refuse to ask middle-class families to give up your deduction for owning a home or raising kids just so we pay for another millionaire's tax cut," Obama said on the stump last month while discussing ways to balance the budget.
Luscombe, the tax analyst, said he believes Congress probably will try to reduce the value of the deduction in some way — perhaps setting a cap or limiting it to just one home.
Proponents of change have one advantage now: Interest rates are so low that homes are, for the most part, at affordable levels. When the Federal Reserve's policymakers end their two-day meeting Wednesday afternoon, they are expected to announce they'll continue pushing down on mortgage interest rates.