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Obama should ditch mortgage deduction

By Rodney P. Mock, Special to CNN
  • Rodney Mock: Obama budget changes tax code, shrinks mortgage-interest deduction
  • Each dollar middle-class homeowner spends on interest equals 15-cent deduction
  • He says if administration wants to grow revenue, shrink debt, it must lose mortgage deduction
  • Mock: For those "underwater," deduction delays realization you don't own home -- bank does

Editor's note: Rodney P. Mock is an assistant professor of accounting at the Orfalea College of Business at California Polytechnic State University in San Luis Obispo, California.

(CNN) -- Buried deep within President Barack Obama's $3.73 trillion budget for 2012 are changes to the tax code that directly affect homeowners, including a significant shrinking of the mortgage-interest deduction.

For every dollar a middle-class family spends on mortgage interest, it gets a 15-cent tax deduction in return. Millionaires who do the same enjoy a deduction more than twice as generous.

To make things fairer, the president's budget calls for reducing the total amount of itemized deductions a taxpayer may claim on income more than $200,000, for single filers, and $250,000 for married couples. The mortgage-interest deduction, as well as real property taxes, would be part of this reduction.

This is a step in the right direction, but if the administration really wants to increase federal revenue and shrink the staggering national debt, it should go even further. It should eliminate the mortgage-interest deduction entirely.

Millions of Americans are not in the foreclosure process yet, but severely "underwater" in their homes, meaning that their homes are worth less than their underlying mortgages.

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For many of these "owners," the only reason they are hanging on for dear life is the mortgage-interest deduction. Given the downward spiral in home sales and the rise in foreclosures and short sales, this deduction represents just another tax-subsidy time bomb waiting to explode.

The mortgage-interest deduction is one of the federal government's largest tax expenditures, costing an estimated $131 billion in 2012.

Where did it come from? Its legislative history is murky.

It was not originally mentioned in the Internal Revenue Code. Rather, when Congress enacted the modern federal income tax in 1913, it made all interest payments, business and personal, deductible.

The mortgage-interest deduction was not expressly mentioned in the tax code until 1986 when Congress eliminated the deductibility of personal interest, but allowed deductions on interest on home loans up to $1 million and home-equity loans up to $100,000. This was partly because of aggressive lobbying by the National Association of Realtors.

The deduction was supposed to encourage the American dream of home ownership, but research has shown that it hasn't really done so. That is because its benefits only go to taxpayers who itemize deductions -- that is, those who are in higher tax brackets, and thus already likely to own a home even without the deduction.

Not only does research indicate that the mortgage-interest deduction fails to encourage home ownership, but Internal Revenue Service data also show that taxpayers who use it more heavily are more likely to be underwater. And the deduction's popularity may be overstated -- a recent New York Times/CBS poll showed that Americans, when asked to rank their preferences for different ways to raise government revenue, preferred a national sales tax or a limit on the mortgage-interest deduction over higher gasoline taxes or new taxes on employer-provided health benefits.

Maybe we need to rip off the mortgage-deduction bandage -- and sooner rather than later.

Americans would be better off with a much larger standard deduction, or lower tax rates for all, or another more equitable tax reduction option. And, for those underwater, whether rich or poor, the deduction is merely delaying the inevitable realization that you no longer own your home -- the bank does.

The opinions expressed in this commentary are solely those of Rodney P. Mock.