The possibility of a restructuring of the residential mortgage interest deduction (MID) resulting in fewer people being able to use it is back in force as the Trump administration and Congress have to pivot quickly from healthcare to raising the debt ceiling, tax reform and the 2018 federal budget.
I've written numerous columns over the past several years detailing the reasoning for having a MID, and the global history of the impact of both implementing a MID, and repealing it later, on housing activity and homeownership rates.
I last dealt with this issue last December in the column, "Why Reducing the Mortgage Interest Deduction Is a Good Thing."
That column has links to previous columns on the subject, and those columns do as well. For readers interested in the subject, I suggest reading them all.
In short, it is long past due for the MID to be repealed in the U.S. based on the logic of why a MID is implemented and empirically proven to function in multiple countries over the last century.
Contrary to the constant fear of the negative consequences for housing and the economy that will be caused by reducing or repealing the MID, there is no historical evidence to support such.
The MID is normally used by developing countries and economies to stimulate the housing industry and phased out after homeownership rates exceed 25% of the adult population. That's not a hard and fast rule, but it's a good ballpark to be aware of.
The most recent empirical support for repealing or reducing the MID in the U.S. is a working paper on the subject from the National Bureau of Economic Research (NBER), "Do People Respond to the Mortgage Interest Deduction? Quasi-Experimental Evidence from Denmark," in which the findings were:
First, the mortgage deduction has a precisely estimated zero effect on homeownership. This holds even in the very long run. Second, the mortgage deduction has a sizable impact on housing demand at the intensive margin, inducing homeowners to buy larger and more expensive houses. Third, the largest effect of the mortgage deduction is on household financial decisions, inducing them to increase indebtedness. These findings suggest that the mortgage interest deduction distorts the behavior of homeowners at the intensive margin, but is ineffective at promoting homeownership at the extensive margin and any externalities that may be associated with it.
These findings comport with previous studies of the subject but lend much greater support to the legislative potential for a restructuring of the MID in the U.S. now simply because of its timeliness.
However, had healthcare reform been achieved, it is likely there would not have been political support for reducing the MID now because fiscal savings allowing for the Trump administration to pursue its other goals would have been achieved through that route.
Indeed, when the Trump administration first floated a potential tax plan and federal budget earlier this year, the MID was not included while healthcare reform was.
The important point now is that even partially pursuing the fiscal and tax platforms Trump campaigned on will require the MID to be greatly reduced. There is literally no other source of funding.
Having said all of that, though, the builders, bankers and real estate industry broadly have been so successful at preventing the MID restructuring from gaining political support by warning of dire economic results. Thus, it is probable, in my opinion, that the initial marginal impact of doing so now will be that all companies and sectors directly related to homebuilding, supply and finance will be negative.
That could present some excellent buying opportunities that I'll address in future columns as the tax and fiscal plans coalesce.
There are a few things to watch for now. Just as Toll Brothers (TOL) CEO Douglas Yearley has warned of the negative consequences of reducing the MID, expect others to follow.
However, if the MID is reduced as part of the tax restructuring, expect them all to switch their opinion to "it's not a long-term problem."
Also, the actual changing of the MID will allow everyone in the industry a short window in which to include any negative news, whether MID-related or not, that could cause earnings to get reduced, and stock prices temporarily, too.
Throughout all of this, remember that although reducing the MID has little impact on housing, it does reduce a large fiscal inefficiency the federal government has been carrying and is thus positive economically.
