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Billions of Tax Dollars Spent Inflating the Housing Bubble: How and Why the Mortgage Interest Deduction Failed

72 Pages Posted: 20 Aug 2014 Last revised: 1 Aug 2017

Rebecca N. Morrow

Wake Forest University - School of Law

Date Written: 2012

Abstract

The mortgage interest deduction is an incredibly popular, politically well-supported and hugely expensive tax incentive. Yet economic studies consistently show that the mortgage interest deduction fails to advance its fundamental purpose. It does not increase the rate of homeownership. On the contrary, to the extent that it is effective in influencing human behavior, it does so by inflating home prices and encouraging borrowing against equity. These effects inflated home prices and excessive borrowing contributed to the economic crisis of 2008. In the years leading up to the crisis, Americans spent billions of tax dollars further inflating a dangerously unstable housing bubble. Even if we had the will to change this policy, we did not have the means. The mortgage interest deduction is insensitive to market conditions and resistant to change. These attributes make the mortgage interest deduction bad policy. Rather than perpetuating this costly deduction, Congress should phase it out in its entirety and replace it with targeted tax incentives designed to stimulate the housing market only when the market is weak. Future tax incentives should avoid the structural flaws that caused the mortgage interest deduction to fail by focusing on market responsiveness, timing and flexibility.

Keywords: Home, Mortgage, Interest, Deduction, Qualified Residence Interest, 163(h)(3), Equity, HELOC

Suggested Citation

Morrow, Rebecca N., Billions of Tax Dollars Spent Inflating the Housing Bubble: How and Why the Mortgage Interest Deduction Failed (2012). Fordham Journal of Corporate and Financial Law, Vol. 17, No. 751, 2012; Wake Forest Univ. Legal Studies Paper No. 2482617. Available at SSRN: https://ssrn.com/abstract=2482617

Rebecca Naomi Morrow (Contact Author)

Wake Forest University - School of Law ( email )

P.O. Box 7206
Winston-Salem, NC 27109
United States

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