President Trump’s tax plan has the housing industry in a tizzy. The National Association of Realtors (NAR) says it puts “at risk ... targeted tax incentives” like the mortgage interest deduction (MID) and property tax deduction (PTD), which “help lower- and middle-class families purchase” a home. It would “effectively nullify the current tax benefits of owning a home for the vast majority of tax filers,” the NAR continues. In addition, it could make “home values plummet ... equity evaporate,” and Americans’ “nest eggs” disappear.
It sounds scary. But almost none of it is true.
The president’s tax reform proposal outline one-page sketch would eliminate all tax expenditures except tax subsidies for homeownership and charitable giving. But the Trump plan also doubles the standard deduction, which would reduce the number of taxpayers who itemize deductions (rather than take the standard deduction), including the MID. In fact, the Trump plan could reduce the number of homeowners claiming the MID by 25 million.
Without the benefit of the MID and PTD, so goes the argument, fewer taxpayers could afford homeownership, resulting in flagging demand for housing, fewer home sales and falling prices.
But that’s a false argument, particularly after accounting for the demand-creating effects of doubling the standard deduction. Indeed, Trump’s plan would raise homeownership opportunities for lower- and middle-class taxpayers and boost homeownership rates in the long run, because it subsidizes taxpayers on the margin between owning and renting rather than taxpayers who can purchase a home with or without a subsidy. Consider the following.
Taxpayers expected to “lose” benefits from housing tax subsidies have very little to lose. Households with income less than $50,000 receive a meager 2.2 percent of tax benefits under the MID, while households with less than $100,000 (84 percent of taxpayers) receive just 18 percent of MID dollars. Meanwhile, taxpayers with income exceeding $100,000 (16 percent of taxpayers) enjoy 82 percent of MID benefits and households with income exceeding $200,000 (4 percent of taxpayers) receive 42 percent.
Moreover, the tax provisions that the housing industry is fighting to save withhold benefits from low- and middle-income households because they take the form of itemized deductions — rather than tax credits or tax-free dollars from a higher standard deduction. Currently, only 30 percent of taxpayers itemize. The other 70 percent take the standard deduction. At best, the MID and PTD help 30 percent of taxpayers, and the actual percentage is 22 percent based on the most recent data.
Furthermore, the value of itemized deductions is tied to a taxpayer’s marginal tax rate (that is, the rate applied to the last dollar earned). A taxpayer in the 35-percent tax bracket receives $35 of tax savings from a $100 deduction, while a taxpayer in the 15-percent bracket receives just $15. Also, consider that households receive additional tax benefits for expenses associated with mortgage interest and property taxes only to the extent those expenses — when added to other potential itemized deductions (like charitable contributions) — exceed the standard deduction.
The structural limitations of delivering tax subsidies through deductions results in a fraction of Americans — nearly all them upper-income households — being subsidized.
Alternatively, Trump’s plan raises the standard deduction, putting more tax-free dollars into the pockets of low- and middle-income Americans. That’s 100 cents on the dollar, not 15 cents, a considerably easier concept to grasp than the confusing system that currently provides inequitable and illusory benefits.
Moreover, those tens of millions of Americans benefitting from a higher standard deduction could choose to spend their tax-free dollars on homeownership (or, for that matter, education, paying down debt, retirement savings, etc.). Some portion of those Americans would be current homeowners. But an even larger portion might be first-time homebuyers, a long-neglected cohort eager to jump into the housing market.
So what of the housing industry’s claim that the Trump plan would cause home values to “plummet,” “equity evaporate,” and “nest eggs” evaporate?
First, to the extent the plan caused home prices to dip due to fewer taxpayers receiving tax deductions, the drop would be temporary. Positive effects on homeownership rates from lower home prices would more than offset negative effects from loss of the deductions, particularly in high-priced, space-constricted markets.
Over time, the natural increase in demand — due to lower prices, new market participants and insufficient supply — would raise home prices. In most parts of the country, eliminating the tax subsidies would have no negative effect on prices and might even raise prices due to the purchasing power of the new tax-free dollars.
Second, the housing industry includes unrealized appreciation in its definition of “equity,” or “paper” equity. Compared to “real” equity — that is, down payments and deleveraging — paper equity is ephemeral. So, while the Trump plan might temporarily eat into paper equity, it should have no effect on real equity. It might even raise equity as homebuyers use the tax-free cash to make larger down payments and homeowners use it to reduce mortgage principal.
Third, a temporary, small and localized drop in housing prices will not cause housing “nest eggs” to disappear for the reasons described above. More importantly, the housing industry oversells the investment returns to homeownership. Over the last 125 years (since 1890), annualized returns to housing barely kept pace with inflation at 0.39 percent.
Housing has grossly underperformed compared to other investment opportunities, including (from 1928-2016) the S&P 500 stock price index (9.53-percent annual returns), Treasury bills (3.42 percent), and Treasury bonds (4.91 percent). There are a lot of reasons to own a home, but financial security is not one of them.
To be sure, we need more details of the Trump plan before drawing definitive conclusions about its effect on housing. Moreover, the rough outlines of the larger plan raise serious concerns about the overall distribution of tax savings, its historic revenue losses under the most optimistic projections and the administration’s ability to sell it to a wary public and Congress.
Nonetheless, it is fair to say that Trump’s tax plan could boost homeownership opportunities for lower- and middle-class taxpayers, raise homeownership rates in the long run, and offer Americans a meaningful choice in their consumption and investment decisions.
Dennis J. Ventry Jr., a professor at the University of California-Davis School of Law, specializes in tax policy and legal ethics and is the vice chairman of the IRS Advisory Council.
The views expressed by contributors are their own and not the views of The Hill.