…off the top of my head, I cannot come up with any reason to
subsidize mortgage indebtedness. How does your having a mortgage loan
benefit me? Does anyone have an answer for that? Bueller?I think that mortgage subsidies emerged pretty much by accident. The
income tax deductibility began when hardly anyone paid income tax, and
it has been grandfathered in ever since. In the 1930′s, government
decided to reshape the mortgage market, and that effort evolved into
government agencies, such as Fannie Mae, FHA, and Freddie Mac. Fannie
and Freddie were subsequently spun out to private shareholders as
government-sponsored enterprises, but Congress never let the GSE’s
forget that they had a "mission" to provide subsidies to low-income
borrowers.
That’s Arnold Kling. I’ll add two complementary points. First, higher investment in homes may bring negative externalities through climate change. Second, home ownership apparently makes a laborer less geographically mobile and increases the severity of business cycles and real shocks.
I cannot come up with any reason to subsidize mortgage indebtedness. How does your having a mortgage loan benefit me?
I’m going to assume that owning a home, even with a mortgage, is considered to make people happier. Governments that don’t make people happier generally don’t get re-elected, therefore…
The other thing is that mortgage repayment obligations serve as a forced savings program for people who would otherwise lack the self-discipline to save and invest their earnings rather than spending it all. It helps turn people into diligent worker bees instead of dissolute layabouts.
Again, that’s the theory.
If one applies the property rights theory of Grossman, Hart and Moore, one can conclude the home owners are more likely to make non-contractible investments in the community because they are the residual claimants. For instance, they have more incentive to paint house numbers on the curb and take other actions that increase the value of the community as compared to renters (or landlords). This is a positive externality, though probably a relatively small one.
Home subsidies have an additional negative externality: They push home prices up.
Mercutio:
Along the same lines, another externality is that many household’s investment portofolio is undiversified, overly exposed to real estate and further overly exposed to one location on the face of the Earth.
It’s accidental. Originally, all interest payments were deductible, on the grounds that all interest received was taxable (it’s the “what is income?” question). Then the real estate lobby managed to keep mortgage interest deductible even when other interest payments stopped being deductible. And yes, it’s indefensible.
First, higher investment in homes may bring negative externalities through climate change. Second, home ownership apparently makes a laborer less geographically mobile and increases the severity of business cycles and real shocks.
Are these mobile renters using electric U-Hauls? If not, doesn’t their mobility partially or completely offset their reduced GHG emissions from apartment living?
“How does your having a mortgage loan benefit me?”
If you are really looking for the positive externalities, the productive from in which to put this question is “How does my equity in the house I live in benefit you?”
I have had that equity for most of my adult life. It has benefited me considerably (I bought houses other people did not want,and sold them on at profits). The only external benefit that I can clearly identify was that one purchase prevented a whole early 19th Century street (now an expensive place to live)from being demolished by the local authority as derelict.
Can anyone relly find a more plausible generalised externality?
Subsidized mortgages provide systemic support for individual and family-centric home ownership and personal land property ownership. Depending on how broadly the incentives go it could also support limited-ownership rental property investment. This would also create mostly small-holding property companies, local or regional in scope, instead of vast rental corporations.
Subsidized mortgages combined with tax laws provide a disincentive for Wal-Property style mega rental builder/owner corporations.
Is this true in the data? What’s the ownership/renter split?
Home owners are much more likely than renters to use their own labor in upgrading their property so it increases the amount of labor and production in the country even if it does not show up as GDP, but as capital gains when the house is sold. That is it acts as an incentive to work, just as a tax cut does.
Joan: do landlords ever put work into their buildings?
None of my economic actions are taken to benefit you, or anyone else but me. And you are free to determine what is a benefit to you. It is a slippery slope otherwise.
It is fashionable to pile on to home ownership, now that there is a credit crisis. But those zealots should try living in a renter’s society, such as Sweden. There is no culture of ownership there, a very high concentration of wealth, and a decaying society which is being overtaken by the unassimilated. It is a society that most Americans cannot imagine, and most have an uninformed and benign view towards. There are good examples you can find, of the tragedy of the commons writ large in the world, as long as you can put aside your PC attitude.
Robbl:
Like anecdote said there is a huge selection bias with what you are looking at. If Bill Gates rented rather than owning his home would be just as nice.
American’s have this disease that makes them think they are best off with 70% of their savings in a single home and 30% in the 401k. Further legislation like “no recourse” and “capital gains exemptions” people are willing to be undiversified to seek out tax free returns with the losses socialized.
If you look at equity withdrawal in Southwest Florida, right after prices began to fall homeowners took out as much cash as they could, and are now just defaulting on their mortgage payments. Normally this behavior would be considered criminal. Instead we are hearing calls for moratoriams on foreclosures so these opportunist can live rent free for a few more months.
When the interest deduction policy was 1st implemented, the price of properties likely went up, so some of the gain was captured by the then current land or house owner. If the government was to remove the subsidy, some of the decrease in the price would likely be borne by the current owners which would make any changes politically difficult.
The wealthier segment of the population benefit from allowing mortgage interest deduction as they (a) can afford to buy houses (b) buy more expensive housing (c) are in a higher tax bracket so an equal sized deduction is worth more to them and (d) can take the deduction on a 2nd property and (e) probably encourages people to remain in debt (buy bigger or more houses) even if they are otherwise indifferent to doing so. FYI, there is no such interest deduction in Canada.
I would agree home ownership causes that people take better care of properties that they own, but I can’t see this justifying such a large wealth transfer from the renters to property/land owners.
Are some of the Libertarians arguing for subsidized mortgages? This looks like special pleading to me.
Allowing a taxpayer to keep more of his or her own money via a deduction is NOT A SUBSIDY. See, comments to Kling at Liberty Fund.
Sorry, but if you tax everything heavily and allow one thing to skate by without paying any of the costs of the federal government, you are subsidizing it. Its protected from acts of war for free, whereas other investments must pay for a share of the common defense.
If it isn’t a subsidy, than neither is allowing African Americans to pay no income tax at all. Yeah, nobody would complain about that being unfair. Of course, thats one subsidy that would actually seem just.
Whenever anyone uses climate change as an excuse for anything, the value of their decreases by 75%.
What do other rich countries do? Is mortgage debt similarly subsidized in Japan, Germany, France, England, Sweden, etc?
Given that the US median home price in 2004 was $185,000, it’s safe to assume that the vast majority of new and existing homeowners will itemize. And this doesn’t take into account the property tax deduction.
Given that the US median home price in 2004 was $185,000, it’s safe to assume that the vast majority of new and existing homeowners will itemize. And this doesn’t take into account the property tax deduction.
First point is that the median home price for a first time home-buyer is probably lower than the median home price for the US as a whole. Increasing home ownership rates means making housing cheaper for first time buyers. Second is a $185,000 house with a 10% down loan at 6.5% interest, the person will pay about $10,700 in interest the first year. At a 1% property tax rate, that’s another $1,850 in deductions and lets assume that there are $3,000 of other deductions (state income tax, donations etc.). That’s about a total of $5,000 in tax deductions above the standard deduction in total. At a 25% marginal tax rate, $1250 a year in taxes saved. If you took the downpayment and invested it, you’d need to make about 6.7% on your investment to wipe out any tax benefits. I’m not convinced that the tax benefits alone are really worth buying a house for.
Unfortunately, if the argument is that it gives the illusion of affordability to many home buyers, I think I’d agree.
Hopefully Anonymous: This isn’t comprehensive, but it is perhaps the beginning of a useful comparison among developed countries.
USA: 68% homeownership rate. Mortgage interest is deductable from taxable income. Many mortgage products are available, but 30-year fixed-rate mortgages are most common. Most mortgages are funded by guaranteed securities issued by government-sponsored enterprises.
UK: 67% homeownership rate. Homeownership is not tax advantaged. Many mortgages produts are available, but 25-year variable-rate mortgages are most common. Most mortgages are funded by non-guaranteed securities issed by enterprises with no government affiliation.
Germany: 40% homeownership rate. Homeownership was subsidized by a government subsidy of 1% of the acquisition cost per year of ownership (“Eigenheimzulage”), but this sudsidy ended in 2004. Many mortgage products are available, but fixed-rate mortgages are most common. Most mortgages are funded directly by banks.
I don’t have as complete information on other countries. I know that homeownership rates vary enoromously among developed countries (Germany 40%, Spain 85%), but are close for most Anglo-Saxon countries (US 68%, UK 67%, Australia 68%, Canada 68%, Ireland is at outlier at 77%). My basic take-away is the culture is by far the most important determinant, and that tax policy and funding systems make very little difference.
And of course, I object to the deduction being labeled a subsidy in the first place.
“First, higher investment in homes may bring negative externalities through climate change.”
Why would that be so, Tyler?
If the mortgage interest deduction were eliminated and the government’s income/spending increased, why would we assume that government spending results in fewer negative externalities than investment in homes?
If the mortgage interest deduction were eliminated and government income/spending did not increase, why would we assume that the redistribution of the tax burden would result in fewer negative externalities than investment in homes?
Why would higher investment in housing necessarily lead to higher negative externalities in the first place? If a significant part of the higher investment were spent for energy efficient design features, wouldn’t other negative externalities be offset? Based on my home-buying experiences, I believe the upper end houses are more likely to have energy efficient features than are those built for the lower classes. Energy efficiency can be built into any price home, but such features are more likely to be luxury items, aren’t they?
The payments are being taxed as income to the creditor (David at 4:30:21).
That’s what my old man always said (and he was around when the whole mortgage-interest deduction thing emerged in the tax code). Most individuals paid very little income tax in those days, and the deduction was a minor loss of tax revenue to the federal government. But the banks/mortgage companies reaped millions in interest payments even back then (it was their principal source of income), and consequently paid high corporate federal tax on that income. The feds still reaped beaucoup de revenue, and the plebes believed they were getting a gift from FDR – what’s not to like?
Yeah, it’s a different story with today’s wealth, incomes and tax code, but if the MI deduction were eliminated, and the market was truly efficient, wouldn’t one of the likely effects be a decrease in the mortgage interest rate, since that deduction is presently factored into the market’s rate-setting considerations?
Pretty amusing to read the carpetbombing of comments by people who obviously have made their decision, trying to stifle any conversation about this subsidy.
This is an important discussion of a policy with an unclear origin which has far-reaching effects.
People in locations that do not receive such a subsidy still live in neighborhoods, buy homes, raise families, and perform energy-efficient and community-building upgrades. Turns out there’s no reason for the government to get involved at all. However, there are plenty of industries that would seriously fight to the death any attempt at scaling back or modifying the strange market-distorting real estate tax treatments.
David Wright
Good analysis and one I agree with HOWEVER:
- in the UK (and Canada) capital gains on principle residence is tax exempt. This is a huge subsidy, potentially as large as mortgage interest deductibility. Canada has no estate duties (capital gains on death though) but UK has raised estate duty level to over $600k, thus neatly exempting most whose inheritance is the family home
- in the UK, local real estate taxes are highly capped. Basically it’s quite possible to pay 1% of value in a poor area, but in a rich area, 0.2% is likely (even common)
- similarly in Canada property taxes tend to be lower than the US (not California, but Texas say)– more like 1-1.5% of property value, rather than over 2%
- Australia does have interest deductibility AFAIK
So in summary, the tax systems in the UK and Canada, with respect to residential real estate, have some strong similarities with the US system.
Another key factor may be zoning, which could be very similar between countries. Generally, driven by the political system, Anglo-Saxon planners favour the mono-ownership pattern. Suburban communities built with owner-occupied homes restrict or prevent the creation of rental units (even old age homes). Once you hit the middle class, and want to live in a neighbourhood with good schools, clean streets etc., you really don’t have a choice other than to own in most communities.
Spain might be an interesting comparison — the same financial deregulation and property hyperinflation that the UK and Ireland experienced. Did this raise home ownership ratios?
The voters like reduced taxes to encourage home-ownership. But it could be better done with 35% tax credits of entire home mortage payment (not just interest), with a lifetime maximum of 10*last years’ avg wage. Thus, if last year the avg wage was $45 k/, the lifetime max would be $450k, and would slowly vary with wages.
The MI encourages re-financing to maximize the deductible interest portion of the house payment. It would be better to slowly move towards less interest deductability, and more of equity — but the social engineering problem is to help first time young homebuyers, who mostly pay interest at first.
Tax credits, even at 100%, are not subsidies. Gov’t cash is a subsidy, or bailout, — like what’s going into Fannie Mae and went into Bear Stearns/ JP Morgan (and LTCM).
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