When people talk about “sacred cows” in the tax code, the deduction for mortgage interest is usually at the top of the list. But it is just one of many tax expenditures benefiting homeowners. Other important ones include the deduction for property taxes and low taxes on the gains from sales of primary residences.

Contrary to popular belief, the mortgage interest deduction wasn’t adopted to encourage home ownership. The original income tax enacted in 1913 allowed a deduction for all interest on the theory that it was largely business-oriented. According to Dennis Ventry of the University of California, Davis, School of Law, only a third of homeowners carried a mortgage in 1910.

It should also be noted that the personal exemption was $3,000 in 1913, equivalent to $70,000 today. Consequently, very few taxpayers could deduct any interest at all. Only 357,000 tax returns were filed in a population of 97 million.

Renting was a much more common form of housing before World War II. According to the Census Bureau, in 1940 just 44 percent of the population were homeowners. As I noted last week, only 3 percent of the population paid any income taxes at the time, rising to 30 percent by the end of the war.

The spread of income taxes made the middle class much more interested in finding deductions to reduce their tax liability, and the mortgage interest deduction was one that was easily available. It helped fuel a rise in the home ownership rate to 55 percent by 1950 and 62 percent in 1960. It’s now 66 percent.

While the rising percentage of Americans owning a home has paralleled the broadening of the income tax, there is surprisingly little hard evidence that the mortgage interest deduction has encouraged home ownership. The Harvard economists Edward L. Glaeser and Jesse M. Shapiro have found that it has only a trivial impact.

A major reason is that the deduction has long been capitalized into the prices of homes. That is, home prices are higher than they would be without the deduction. Thus to the extent that the deduction encourages home ownership, it is exactly offset by the extent to which high prices discourage home ownership.

It is likely that if mortgage interest had never been deductible the home ownership rate would be similar to what it is today. Indeed, it might even be higher, according to research by the economists Matthew Chambers, Carlos Garriga and Donald E. Schlagenhauf. They contend that without deductibility tax rates could have been lower, which would have raised after-tax incomes, making it easier to afford a home.

There is further evidence from foreign countries. According to a recent paper by the economists Steven C. Bourassa, Donald R. Haurin, Patric H. Henderschott and Martin Hoesli, there is little evidence that mortgage interest deductibility has any impact on home ownership rates one way or another. As the table from their paper shows, many countries without deductibility have higher home ownership rates than we do, and some with deductibility have lower rates.


Steven C. Bourassa, Donald R. Haurin, Patric H. Henderschott and Martin Hoesli, 2012.

Reformers have long asserted that there are negative social and economic consequences to the mortgage interest deduction insofar as it does increase home ownership. For example, it may encourage people to buy more expensive homes even if it doesn’t affect the rate of ownership. To the extent that the deduction encouraged greater indebtedness, it may have contributed to the recent financial crisis.

As we know, a crucial problem has been that many homeowners found themselves “under water” as the value of their homes fell below the balance of their mortgages. A key contributor to excessive housing debt is the deductibility of home equity loans that can be used for personal consumption.

Economists also assert that mortgage interest deductibility may have encouraged Americans to overinvest in housing at the expense of investments in stocks and bonds that would have led to more investment by businesses in plants, equipment, research and development and so on that would have raised productivity and wages. They also suggest that excessive home ownership has made workers less mobile when the housing market is weak, unable to move to where jobs are more plentiful because they can’t sell their house for enough to cover their mortgage.

Tax reformers have long eyed the mortgage interest deduction. In the Tax Reform Act of 1986 they managed to limit deductibility to mortgages of less than $1 million. Last week, the chairman of the House Ways and Means Committee, Representative Dave Camp of Michigan, said he would seek lower tax rates for individuals and companies while altering the deductions for mortgage interest and charitable contributions. In an interview with Bloomberg Television, he did not spell out what alterations he would seek.

Other nations have taken steps to limit or end mortgage interest deductibility. Finland adopted a reform in 1993 that limited the rate at which taxpayers could deduct mortgage interest. In Britain, deductibility was eliminated in 2000.

One idea that often comes up is replacing the mortgage interest deduction with a tax credit. It would hold harmless most homeowners in terms of their tax liability, while improving fairness and raising net revenue that could finance tax rate reductions. This has been proposed by those on the right, including the American Enterprise Institute economist Alan Viard, and those on the left, including the Center on Budget and Policy Priorities.

The principal constraint on any reform is that the mortgage interest deduction is very popular, according to every poll on the subject. Typical are a CBS News poll in December 2012 that found 62 percent of respondents opposed elimination of the mortgage interest deduction and a New York Times/CBS News poll in June 2011, which asked people how important the deduction is. An overwhelming 93 percent of people said it was (63 percent said “very” and 30 percent said “somewhat”). On the other hand, an October 2012 poll by the Pew Research Center for the People and the Press found that 47 percent of people would support limiting the mortgage interest deduction with 44 percent opposed.

The main argument for reforming the mortgage interest deduction is simple math – it is the second largest tax expenditure, reducing federal revenues by more than $100 billion. It will be harder to reduce tax rates if the deduction is declared off limits.



Bruce Bartlett held senior policy roles in the Reagan and George H.W. Bush administrations and served on the staffs of Representatives Jack Kemp and Ron Paul. He is the author of the forthcoming book "The Benefit and the Burden: Tax Reform – Why We Need It and What It Will Take."