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Monday, January 24, 2011

Select Tax Benefits for Homeowners: Analysis and Options

Mark P. Keightley
Analyst in Public Finance

This report focuses on the two largest federal tax benefits available to homeowners—the mortgage interest deduction and the deduction for state and local property taxes. While other tax benefits for homeowners exist, these two particular benefits are the most expensive in terms of forgone revenue to the federal government. Between 2010 and 2014 the mortgage interest deduction and property tax deduction are estimated to cost around $96.8 billion and $24.2 billion annually. Congress may therefore consider modifying these two tax benefits to raise revenue. The mortgage interest deduction and property tax deduction are also the two tax benefits proponents most often argue promote homeownership. Economists, however, have questioned this claim.

Some argue that the housing market is too fragile to modify federal homeownership policies at this time. The market will, however, return to a more normal state eventually. Analyzing and possibly deciding on policies now that are to be implemented at a more appropriate time may reduce uncertainty faced by current and potential homeowners. A sustainable housing tax policy would also be consistent with calls for a plan to address the government’s long-term fiscal problems.

The analysis presented in this report is structured along two dimensions. First, the analysis focuses on the rationales commonly offered for providing tax benefits for homeowners, mainly that homeownership (1) bestows certain benefits on society as a whole such as higher property values, lower crime, higher civic participation, among others; (2) is a means of promoting a more even distribution of income and wealth; and (3) has a positive effect on living conditions, which can lead to a healthier population. Although these benefits may exist, the analysis presented in this report highlights the difficulties that economists have encountered in attempting to establish their existence or magnitude.

The analysis then turns to examining the effect that the mortgage interest deduction and state and local property tax deduction have on the homeownership rate, housing consumption, and the economy. The analysis in this report suggests that these tax incentives may have a larger effect on the size of homes purchased than on the decision to become a homeowner. The possibility that attempting to promote homeownership via the tax code may distort the allocation of capital and labor, which could hinder the performance of the economy in the short-run and long-run, is also raised. In the process of conducting the analysis, this report briefly summarizes the historical trends in homeownership and the more recent trends in foreclosures. The report concludes with policy options that Congress may find useful as it moves forward, including proposals made by President Obama’s Fiscal Commission, President George W. Bush’s Tax Reform Panel, and the Congressional Budget Office.

Date of Report: January 18, 2011
Number of Pages: 26
Order Number: R41596
Price: $29.95

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