Plan to limit mortgage deduction draws fire

Any effort to change the tax-deduction rules for mortgage interest, as President Obama has proposed in his budget, is guaranteed to bring the housing industry to its feet, shaking its fists.

The protests began in earnest moments after the president announced his budget plan Thursday.

"This proposal could have an adverse effect on a market that is already in trouble, and this is not the time to reduce incentives for buying or refinancing a home," Mortgage Bankers Association chief executive officer David G. Kittle said.

Other voices were raised, too, essentially saying the same thing: Bad idea.

Currently, households paying income taxes at the 33 percent and 35 percent rates can claim deductions at those rates. Under the Obama plan, the deduction would be reduced to 28 percent of the value of those payments.

For the 2009 tax year, the 33 percent bracket starts with couples whose taxable earnings are $208,850, when adjusted for personal exemptions and various deductible expenses.

Say this couple had $18,000 in mortgage interest. In the 2008 tax year, the value of this deduction would be $6,300. In 2009, it would be worth $5,040.

Deducting mortgage interest, the real estate industry has perennially argued, is a major reason to buy one's first home.

"It is an important part of the . . . process to remind potential buyers that, unlike paying rent, the interest on a mortgage payment has a tax advantage," said Noelle Barbone, Delaware Valley operations manager for Weichert Realtors.

Given that first-time buyers typically have not reached the zenith of their earning power, nor are they typically purchasing million-dollar homes, the change to the mortgage deduction is not likely to lose its luster as a marketing tool for Realtors or builders.

Still, is the deduction really all that important in a down market?

"Oh, most definitely," said Philadelphia economist Kevin Gillen. "Econometric studies have shown that it increases the value of a home by 5 percent to 7 percent."

But the deduction "really only applies to the upper two-thirds of the income spectrum," Gillen said, "since lower-income households don't itemize."

In fact, IRS studies - the most recent in 2003 - showed that 36 percent of interest deductions on home mortgages were claimed by taxpayers with adjusted gross incomes exceeding $100,000, suggesting that the hit will be much more direct.

"I think [the deduction] is a consideration" in a home purchase, said Marshal Granor, principal in Granor Price Homes, of Horsham.

"If you believe in the 'trickle-up' economics of real estate - and I do - you need the first-timers and moderate-income folks to buy their more modest homes, so people can move up and out into larger homes," Granor said. "In this case, like the $400 cash tax refunds, the idea is to place money in the hands of many 'little guys' and allow them to do their magic by spending throughout the country."

Developer Carl Dranoff, while not disputing the value of the mortgage-interest deduction, said that instead, pricing and confidence were driving today's home purchases. " 'Will a purchase hold its value?' is the key question buyers ask," he said.

This is not the first time the mortgage-interest deduction has been threatened. Most recently, in 2005, just as the real estate boom began slowing in the West and Florida, then-President Bush's tax commission suggested replacing it with a 15 percent tax credit.

In response, the housing industry argued that disallowing the deduction could result, in the words of the National Association of Realtors, "in home prices decreasing by 15 percent, especially in high-cost areas such as California."

The proposal died under intense lobbying. But California's home prices have plummeted 45 percent since 2005, even with the deduction intact.

The Fed's flow-of-funds' latest estimate, for third quarter 2008, shows the nation's homes have lost $2.79 trillion of their value since the peak of the housing market in the fourth quarter of 2006.

The administration's plan to try to stem that flow of blood - the $75 billion foreclosure-prevention plan - is to be spelled out in detail Wednesday.