How Tax Reform Could Hurt Homeowners
Posted by @TopMortgageRate
Tax reform is a laudable goal. People are tired of spending so much time filling out tax returns each year. If the tax base is expanded and tax rates are lowered, there will be a long-term incentivizing stimulus to the economy. Though the elasticity of the response is debatable, some level of faster GDP growth can help solve many societal problems. Everything from higher paying jobs and an increased standard of living to social security trust funds that are more manageable and increased international competitiveness are all possible. However, if not done correctly, or if reform bypasses important elements, then there could be unintended consequences.
Currently in 2017, the standard deduction is $6,350 for an individual filer and $12,700 for a joint filer. Therefore, the first $12,700 of income for a family is in essence not taxed, as that same amount can be deducted. In addition, the family also applies personal exemptions of around $4,000 per person. A family of four would also get additional $16,000 off their income on top of the $12,700 before facing tax brackets. This means that essentially the first $28,700 is tax-free income for this family of four. Tax rates kick in on incomes greater than that amount.
Under the proposed tax reform plan – known in Washington as the “Big 6”– the standard deduction almost doubles: $12,000 for individual filers and $24,000 for joint filers. However, personal exemptions and property tax deductions go away. Moreover, far fewer will be taking the mortgage interest deduction, because the standard deductions are much larger. For an illustrative purpose, a family of four with $8,000 in mortgage interest and $4,000 in property taxes, which would be roughly in line with the national average, currently with the tax structure as is would be able to deduct $28,000 in combined personal exemptions ($4,000 x 4 people), along with $8,000 in mortgage interest and $4,000 in property tax. Under the new tax proposal, the deduction would most likely be only $24,000. Unless the family contributes a huge amount to charity (in excess of $16,000) - then the standard deduction would make more sense than trying to deduct mortgage interest plus charity. Our calculations for homeowners in the income range of $50,000 to $200,000 is that they would face a tax hike of over $800. If there are more children in the family then the outcome will be worse, as there will no longer be any tax relief from bringing additional children into the family.
For a quick comparison, a renting couple with no kids would also deduct the same $24,000. Renters are better off in this scenario because they do not have a mortgage or pay property taxes, and therefore the much higher standard deduction automatically makes them better off. Our analysis shows a tax relief of around $500 for a typical renting household.
It is also worth noting that over the long haul renters do not accumulate wealth. The latest Federal Reserve data points to the typical wealth of a renting household falling from $5,900 to $5,100 since 2000, while home-owning households enjoyed a gain from $192,800 to $231,400. Renters may be less focused on long-term life goals. For homeowners, aside from the obligation of a 30-year mortgage and the accompanying automatic principal accumulation with each monthly payment, they are forced to think long-term and about activities that would enhance their property value. That is why any short-term respite for renters from the proposed tax reform will most likely not help enlarge the wealth accumulating property owning middle class. What is more necessary is raising the number of successful homeowners. Things like boosting home construction and increasing the supply of affordable homes will be much more impactful than unintentionally diminishing the role of the mortgage interest deduction.
Tax reform is a noteworthy goal. However, a reform at the expense of homeowners is misdirected. Homeowners are the ones who pay most of the income taxes. In any given year, homeowners fork over roughly 80 to 90 percent of all personal income tax in America. We should remember a vast majority of homeowners do use mortgage interest and property tax deductions at some point in their homeownership.
How then to simplify the tax code, yet maintain the historic role of tilting attractiveness toward homeownership and enlarging the middle class? That's easy. There is no need to raise the standard deduction and greatly boost the number of non-taxpaying citizens. Just thoroughly review and get rid of the loopholes that are not benefiting the broadest number of citizens. The consequently larger tax base then permits the lowering of tax rates in a much more simplified system. Lower tax rates in turn will boost long run GDP growth. Nevertheless, just remember: sustainable and successful homeownership should be encouraged and not diminished.
Read entire article on: forbes.com
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