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Conflict of Interest

President Obama's deficit commission takes aim at the mortgage interest deduction.

Following the delivery of the National Commission on Fiscal Responsibility and Reform's recommendations for fixing the country's spiraling debt and deficit problems in early December, much of the housing industry is once again mobilizing to protect housing interests. Clearly in the crosshairs as the commission struggles to boost the country's revenues and rein in spending are housing-related tax subsidies, not the least of which is the coveted mortgage interest deduction (MID), which allows taxpayers to deduct the interest paid on their mortgages from their taxable income.

Although the 18-member, bipartisan commission backed off a bit from an original draft proposal, which eliminated the MID completely, its final recommendations called for the deduction to be converted to a 12 percent nonrefundable tax credit available to all taxpayers. With a couple caveats: The credit is only available for mortgages less than $500,000 and would not apply to mortgages on secondary or investment properties.

While this plan would seem a better scenario than what was originally sketched out in the Simpson-Bowles plan, and more in line with a second deficit reduction proposal recently put forth by Alice Rivlin, former director of the Office of Management and Budget and a member of the president's deficit commission, and Rep. Pete Domenici (R-N.M.), many builders are unhappy with the recommendations.

“This is absolutely the worst time to be considering changes to the mortgage interest tax deduction,” said Bob Jones, chairman of the NAHB and a Michigan-based home builder, in a statement. “Tampering with the [mortgage interest] deduction would be a major setback for today's slowly emerging housing recovery.”

Ken Gear, who heads up government relations for the industry group Leading Builders of America, would agree. “I think what they ought to do is leave it alone,” he said.

But for others, a change to the MID might not be the blow to housing that many expect.

“I think the industry values it too highly,” said economist Mark Zandi of the MID. “It's not at all helpful to housing and construction.”

Zandi's argument is that the interest deduction actually functions to inflate home prices by as much as 5 percent. By decreasing affordability, it hampers housing demand, creating no benefit to home sales or construction.

Historically, critics of the MID have argued that the bulk of the deduction's benefit has been concentrated in the higher income brackets. However, Rob Dietz, NAHB's assistant vice president of tax and policy issues, countered that under present law, nearly 70 percent of the tax benefits of the MID go to households earning less than $200,000, below the administration's definition of middle class.

However, while the credit is a better option than doing away with the MID altogether, the broad-brush tax reform outlined in the proposal means that although the tax rates would go down under either plan, taxpayers could end up having more of their dollars going to taxes, said Dietz.

“By ripping out all these deductions, they are making taxable income closer to gross income,” he said. The net result being that taxpayers could find that although they are being taxed at a lower rate, they're being taxed on a higher income, resulting in a higher tax bill. Indeed, the commission is aiming for total federal government revenues to equal 21 percent of GDP, above the approximately 18 percent of GDP average over the last 40 years.

But whether the commission's proposed plan will turn into action remains to be seen.

Bob Toll, chairman of Toll Brothers, for one, didn't see the plan gaining much traction going forward. When asked during the company's fiscal fourth quarter earnings call what management thought of the commission's proposed changes to the MID and what handicap it would put on the plan being implemented, Toll said: “The odds of it getting passed are zero to minus five. I don't think it stands a chance. And I think it's wrongheaded.”