White House Wants To End Tax Break For Wealthy Homeowners

The White House is urging Congress to limit, or cut, the once untouchable tax break for mortgage interest. In traditional class warfare parlance, the White House cap on mortgage interest deductions will fall only upon the “wealthy.” Unfortunately for South Bay and Manhattan Beach homeowners, if you can afford to own real estate in this area you will likely be impacted.

The Obama administration is proposing reducing deductions for homeowners who earn more than $250,000 pear year.

Chart from LA Times Local Neighborhoods.

With 38% of Manhattan Beach residents earning over $125,000 per year, we expect this legislative change will materially impact our local market.

President Bush attempted to eliminate the mortgage tax break in 2005, but was stopped by Congress. The Obama administration tried this same legislative change with last year’s budget, but met similar obstacles. Given that the real estate market is in such turmoil, and that so many people gain advantage from perpetuating this tax break, it is unlikely the White House proposal will be accepted by Congress.

What Does The Mortgage Tax Break Mean For The Economy?

There is no free lunch in economics – we’ve all heard that term, right? The same is true for tax breaks, or any legislative market manipulation. Enabling borrowers to write off interest payments from their income tax liability increases incentives to borrow money to buy real estate. This ultimately skews capital structures in that less equity investment is made with purchases relative to debt assumption. Increasing debt levels simultaneously increases prices and risk. In essence, the mortgage tax break causes housing to be “over-capitalized,” siphoning disproportionate capital resources from other parts of the economy.

Eliminating the tax break makes good economic sense; however, the result will inevitably be a deflation in housing prices. The magnitude of the deflation is uncertain. Given that real estate markets are already on shaky grounds, reducing, or eliminating, policies that support home prices can potentially lead to a market route.

All things considered, it is too bad President Bush was not able to repeal this tax break in 2005. That was probably the best time to moderate an over-heated market, and realign national capital resources in a relatively stable environment. We may have missed that opportunity for some time.