Sep202012
Is the home mortgage interest deduction really at risk?
Do we really need to give high wage earners a huge tax break as an encouragement to take on excessive debts? That’s what the home mortgage interest deduction really does. If the deduction were eliminated, home values in areas like Orange County populated by high wage earners would drop to establish a new equilibrium, but nobody would go without. In fact, the home mortgage interest deduction does little or nothing to increase home ownership rates because the low wage earners at the fringe of affordability don’t use the deduction anyway. Studies have show home ownership rates are just as high in countries like Canada that do not have the deduction. So why do we keep it? Apparently, there is a lot of political pressure even from those who don’t utilize the subsidy.
As a renter paying fair-market value for my property, I am getting subsidized by no one. I am the odd man out subsidizing everyone else. I subsidize loan owners through the home mortgage interest deduction. I subsidize low-income home owners through low-income housing tax credits. I subsidize other renters through the section 8 program. The government gives me nothing for renting at fair-market value; in fact, section 8 renters actually drive up the rental rates I would be paying by bidding up the prices of all rentals in the marketplace. My tax subsidies are actively working against me.
I believe we should eliminate the home mortgage interest deduction. It should be done slowly over time by gradually lowering the cap and raising the personal exemption. Lowering the cap will take away the benefit from high wage earners, and raising the personal exemption would make even fewer low wage earners itemize and take the deduction. It doesn’t seem likely any such change would happen in a vacuum. The only way the deduction is changed is in part of some grand compromise, but with gridlock in Washington, I am not holding my breath.
Is your mortgage-interest deduction safe?
Why today’s discussion of the deduction may be purely political
Amy Hoak – Sept. 18, 2012, 10:37 a.m. EDT
CHICAGO (MarketWatch) — The housing market isn’t often a talking point for the presidential candidates as they focus on broader economic themes and job creation.
But there has been some discussion of the future of the mortgage-interest deduction.
Fear not, if you’re someone who benefits from the deduction: Politically, it remains nearly impossible to get rid of the perk.
“Now is not a great time to do something like this,” said Roberton Williams, senior fellow at the Tax Policy Center, a joint venture of the Urban Institute and the Brookings Institution, made up of experts in tax, budget and social policy. “Many homeowners rely on the cost of the deduction,” he said, “and if you undo that, there are enough people who are close enough to not being able to cover their mortgages that they’d be in trouble.”
The fact that so many loanowners exist on the margin is why any change to the HMID would be very gradual. Rising incomes would need to compensate for the lost write offs or many people will opt to sell their current homes. Those who are above water will sell, but those who are below water will strategically default or short sell contributing more to bank losses and ultimately taxpayer losses.
Plus, powerful groups including the National Association of Realtors and the National Association of Home Builders lobby heavily on behalf of the deduction. On its website, NAR calls the deduction “a remarkably effective tool that facilitates homeownership.”
As usual, the NAr is full of shit.
So why does removal of the deduction even come up?
“Part of it is the fact that Romney has proposed half a tax plan. His tax plan says here is what we’re going to do with tax rates — we’re going to cut them a lot,” Williams said. “If you’re doing the boogeyman stuff, he’s coming after your mortgage-interest deduction. It’s hard to imagine he wouldn’t go after those because he needs so much revenue to make up for the tax rate.”
Romney’s so-called plan to cut taxes is political theater. Even if he bothered to propose it, it would have little or no chance of passing.
As you might suspect, Democrats are fine with having you think that Republican presidential candidate Mitt Romney would cut the mortgage interest deduction, Williams added.
That’s even though the Republicans inserted language in their platform about the deduction, saying they would preserve the mortgage-interest break in the event that Congress fails to accomplish wider tax reform.
Meanwhile, President Obama has made clear the deduction would be safe under his watch. “I refuse to ask middle-class families to give up their deductions for owning a home or raising their kids just to pay for another millionaire’s tax cut,” he said during his acceptance speech at the Democratic National Convention.
Obama is on the correct side of this issue politically, but as a policy, it’s still flawed.
Deduction’s effect
Just because the deduction probably won’t go away soon doesn’t mean it shouldn’t be tweaked, according to some.
The deduction’s roots go back to 1913, when taxpayers were able to deduct interest paid on any loan, said Anthony Randazzo, director of economic research for the Reason Foundation, which describes itself as a think tank with the goal of advancing values of choice, individual freedom and limited government. “In 1986, Reagan tax reforms got rid of a lot of that, but interest on a mortgage was allowed to stay in the tax code.”
One of the main reasons this deduction was allowed to stay is because it created a strange imbalance between owner-occupants and landlords. A landlord can deduct the mortgage interest, but a homeowner could not. This gave landlords a potential advantage that could have adversely impacted the ownership rate, so the HMID was allowed. In the real world, landlords don’t generally compete with owner-occupants on desirable properties because landlords want positive cashflow, so any impact on the home ownership rate would be very small.
But now, to fully justify the mortgage-interest deduction, it would be worthwhile to explicitly define what it aims to do.
If the goal is to help people with lower incomes, the deduction doesn’t really get the job done, Randazzo said.
“For those people who do itemize, you have to be earning at minimum $35,000 to get more than maybe an $8 a month benefit on your mortgage,” Randazzo said. “Even up to $75,000 a year, you are getting a $179 annual average savings from the mortgage-interest deduction. That’s less than $15 a month benefit.”
The fact that lower wage earners don’t benefit shows how poorly executed the subsidy is. It also suggests a way to reduce its impact is to raise the standard deduction more.
People who benefit the most from the deduction are between the ages of 25 and 35, and have household incomes of more than $250,000, according to Reason research. Younger homeowners tend to benefit more than older ones because their mortgages are newer, and a larger percentage of their payments are going toward the loan’s interest.
It also benefits HELOC abusers and Ponzis who maximize their mortgages to live off the mortgage equity withdrawal. Another limitation I would put on the HMID is that it can only exceed the original loan balance if a verifiable property improvement is made, otherwise we are subsidizing people’s consumer spending with tax breaks.
If the goal of the deduction is to entice people to buy homes, it also isn’t the best policy, Williams said. Economists haven’t been able to show it raises the rate of homeownership, even though real-estate agents often tout it as a benefit.
Even so, “if the deduction disappears, [home] values will go down,” Williams said. “People who currently own houses will take a hit. They will not be worth as much as they are today, there’s no way around it.”
And that’s why is doesn’t happen.
The removal of the deduction would cause people to bid less money for the same home, since they wouldn’t be able to rely on the tax break, he added.
Homeownership attitudes
It likely would take more of a shift in attitudes about homeownership for the deduction to be eliminated, and that could be coming — especially if the proposed qualified residential mortgage proposal requires people to put 15% to 20% down to buy a home, Randazzo said.
Some would say it’s already starting to shift, given the recent growth in popularity of renting, he said. Yet for many, owning a home is still a large part of the American dream
Still, if the deduction goes away, it would likely be part of a much broader reform of the tax code, Randazzo said.
“The way [elimination of the deduction] is going to happen is part of a grand bargain,” Williams said. At that point, the deduction could be just “one of the things that falls by the wayside.”
Yes. That’s the only way it would happen.
The people who benefit from the home mortgage interest deduction want to see it preserved for selfish reasons. People like me who pay the subsidy want to see it eliminated, also for selfish reasons. So what do you think? Should we keep it or get rid of it?
Is the spring rally fizzling out?
Home Prices Drop in August: Zillow
Lately, the expectation has been for home prices to continue rising, but a recent report from Zillow put a damper this view.
Home prices dropped in August month-over-month after rising for nine consecutive months.
However, the drop was mere a 0.1 percent. At an average of $152,100, prices were still up on a yearly basis, showing an increase of 1.7 percent.
“Home values took a small hit in August, but this shouldn’t be cause for alarm,” said Zillow Chief Economist Dr. Stan Humphries. “The back half of the year is always softer than the front half, and this year is no exception. We’ve been encouraging folks to focus on the longer term trends and not monthly blips. Home values will rise a little and fall a little, month by month, in the near future, but we believe the overall trend will remain positive albeit still below normal rates of appreciation.”
The larger markets to see monthly price decreases were Chicago (-0.7 percent), New York (-0.3 percent) and Boston (-0.2 percent) metros.
On the other hand, rent increased 0.2 percent on a monthly basis and 5.9 percent yearly, rising to of $1,280.
Rents have climbed higher for seven straight months, with some metros seeing double-digit yearly increases, including Chicago (12.8 percent), the Baltimore (12.4 percent) and the Philadelphia (10.5 percent).
Foreclosures in August fell, with 6 out of every 10,000 homes becoming a foreclosure, a decrease from 6.4 out of every 10,000 homes the month before.
It would take unbounded naivete’ to think $trillions in sector price support ‘welfare’ was going to dispursed for free.
In other news:
Looks like there are negative consequences for holding REO “indefinately” (LOL)
BofA to lay off 16,000 workers by year-end
http://www.smartbrief.com/news/cfa/storyDetails.jsp?issueid=118F2A14-D103-46F3-9219-BB434EC3AA4D©id=712C27E4-1BCA-402C-ABFA-6EBF66F093AA&brief=cfa&sb_code=rss&&campaign=rss
Last year BofA laid off 30,000 employees to cut costs. Now, they are laying off another 16,000. They must be in real trouble.
Evidently, fake accounting becomes ineffectual when cash flow dries-up.
Wells Fargo just renewed a huge lease for office space in Downtown LA…the lease has an unusual provision – Wells Fargo has the right to give back about 30% of the space during the first three years of the lease. I think banking is headed for some interesting times…
If BofA is in trouble, it’s not because they weren’t given sweetheart deals.
Did Fannie Mae Pay Too Much in BofA Deal?
As part of its High Touch Servicing Program, Fannie Mae entered a deal with Bank of America in July 2011 to purchase mortgage servicing rights (MSR) for about 384,000 high-risk loans the GSE guaranteed. The Federal Housing Finance Agency Office of Inspector General (FHFA-OIG) recently reviewed the deal and the program in general.
The idea behind Fannie Mae’s High Touch Servicing program is to purchase the servicing rights for portfolios of high-risk loans it guarantees and transfer them to specialty servicers to mitigate losses.
At the time of the BofA deal, the portfolio in question had an 11 percent delinquency rate.
Fannie Mae estimated it would reduce losses by between $1.7 billion and $2.7 billion by turning the loans over to a specialty servicer.
The GSE has the option of transferring servicing rights “for cause” without paying any fees to the current servicer, or “without cause” at a rate of twice the annualized servicing fee.
However, the ultimate deal negotiated between Fannie Mae and BofA required the GSE to pay 2.4 times the annualized servicing fee — $512 million instead of $427 million.
While the FHFA held reservations about the price of the deal, it ultimately approved it.
After reviewing the purchase, FHFA-OIG stated in its report, “Fannie Mae, as guarantor of the mortgages in the BOA portfolio, faced the prospect of significant losses were it not to purchase the MSR; thus, the value of the MSR to Fannie Mae might well have exceeded the value to a purchaser with no such liability.”
The FHFA-OIG did find some fault with Fannie Mae’s approach in negotiating the deal. The GSE relied solely on one independent valuator’s review of the portfolio and “did not avail itself of its internal Model Risk Oversight Group to assess the independent valuator’s process or conclusions.”
The FHFA-OIG “ventures no findings as to the validity of the independent valuator’s valuation model or the accuracy of its valuation of the BOA portfolio.”
The terms of the BofA deal were not out of line with other similar deals, according to the report. However, the FHFA-OIG suggests, “The High Touch Servicing Program would benefit from a more rigorous valuation process.”
My questions are: Will they get a secret loan from the Fed to keep afloat? And will they start to foreclose on homes to get back some of that principal that is non-performing?
“Ability to pay” may be considered discrimination
In late 2011, HUD proposed a final Fair Housing rule that would essentially allow discriminatory lending cases if borrowers could show a “discriminatory effect” or that one group was disparately impacted by lending practices. In other words, no actual intent to discriminate is needed as long as the disparate impact of the lending can be shown by a group, according to documents filed in the Federal Register. The recording in the Federal Register says HUD proposed the final draft of the rule “to establish uniform standards for determining when a housing practice with a discriminatory effect violates the Fair Housing Act.”
At the same time, the CFPB is working on a rule that could hit lenders hard if they issue a loan and it’s later found the borrower did not have the ability to repay. The confusion comes in when trying to decipher how a lender determines ability to pay. And if a group disparately impacted by not meeting “ability-to-repay” standards is upset, can they then sue for discrimination under HUD’s proposed rule or will the two agencies create a safe harbor protection and coordinate the two laws?
“You have here two rules, and the underlying intent is consumer protection,” Mortgage Bankers Association CEO David Stevens said at a conference in Dallas last week. “But by not coordinating the rules you can actually harm consumers by creating constraints in lending that could become a concern.”
A court case that was expected to define the scope of discriminatory lending fell through at the Supreme Court last year, and HUD is waiting to see if a similar case will be heard by the Supreme Court this year.
Will it be a lender’s “discriminatory intent” that determines a case or will it be the “discriminatory effect or outcome” of how loans are issued that constitute discrimination? The latter would lead conservative lenders trying to follow CFPB guidelines into a tight spot if the rules are not coordinated, Andreano suggests.
He says HUD has seemingly slowed down its push to define the rule as it waits to see if the Supreme Court will define it for them. But the real question is whether the “ability-to-repay” rule from the CFPB will protect lenders from what could be perceived as disparate impact on certain groups of borrowers by stipulating in its rule that loan decisions are safe from discrimination allegations as long as they are based on ability-to-repay guidelines.
Andreano says if the rules are not coordinated, the ambiguity between discriminatory lending laws and ability-to-repay provisions will encourage overly cautious lending.
“…A court case that was expected to define the scope of discriminatory lending fell through at the Supreme Court last year, and HUD is waiting to see if a similar case will be heard by the Supreme Court this year…”
Um, that’s a false statement. It didn’t “fall through.” Plaintiff withdrew the case before it could proceed further up the chain. Their concern was that the Supreme Court would kill their groundless theory that discriminatory effect can be used this way. By withdrawing, plaintiff’s attorneys and regulators have preserved, for now, this cause of action.
The first time this case makes it’s way to the Supreme Court, do you think it will get shot down? It seems like a flimsy case of discrimination if what they are really discriminating against is the inability to meet one’s mortgage obligations; after all, that’s the whole point of underwriting.
In the SCOTUS, definitely.
Here’s a bit more on this topic if anyone’s interested.
From a Ballard Spahr Update:
DOJ Fair Lending Focus Continues in Settlement of Case Challenging Lender’s Minimum Loan Amount Policy
The Department of Justice’s recent announcement that it had settled its case against Luther Burbank Savings challenging Luther’s minimum loan amount policy demonstrates the DOJ’s continued focus on fair lending. The settlement underscores the need for lenders to have their lending policies reviewed by counsel for compliance with fair lending laws and to be
prepared to defend such policies against fair lending challenges.
The DOJ’s complaint, filed in the U.S. District Court for the Central District of California, alleged that from 2006 through mid-2011, Luther enforced a $400,000 minimum loan amount policy for its wholesale single-family residential mortgage loan program. The DOJ charged that the policy violated the Equal Credit Opportunity Act and the Fair Housing Act because it had a disparate impact on the basis of race and national origin. Using Home Mortgage Disclosure Act data reported by Luther and other residential mortgage lenders, the complaint alleged that Luther originated significantly fewer single-family residential mortgage loans to African-American or Hispanic borrowers or in majority-minority tracts throughout California than comparable prime lenders.
The settlement, which must be approved by the court, requires the bank to make available at least $1.1 million in a special financing program designed to increase Luther’s residential mortgage loans to qualified California borrowers seeking loans of $400,000 or less. Luther must also spend at least (1) $450,000 on partnerships with community-based organizations that provide credit and financial services to minorities, (2) $300,000 on targeted advertising and marketing to minorities, and (3) $150,000 on credit counseling, financial literacy, and other consumer education programs. Luther is prohibited from establishing or implementing a $400,000 minimum loan amount policy and must notify the DOJ before increasing its current $20,000 minimum loan amount (which took effect in 2011 after the lawsuit was referred to the DOJ by the Office of Thrift Supervision). The settlement also requires Luther to provide fair lending training to its employees and to offer such training to brokers who refer loans to the bank.
While the DOJ may continue to pursue disparate impact claims that are already in its pipeline, that legal theory is on shaky ground. In fact, the U.S. Supreme Court could have another opportunity to decide whether disparate impact claims are available under the Fair Housing Act if it grants the petition for certiorari filed in Mount Holly v. Mount Holly Gardens Citizens in Action, Inc. As discussed in our prior legal alert, the issues in Mount Holly are virtually a carbon copy of those raised in Magner v. Gallagher, which was dismissed by the parties soon before the Supreme Court was scheduled to hear oral arguments.
As a possible harbinger of future DOJ actions, the DOJ last month announced the settlement of a “pattern or practice” fair lending lawsuit against GFI Mortgage Bankers, Inc., that restyled a disparate impact case as a “knew or should have known” disparate treatment case. The settlement required GFI to pay a total of $3.555 million, consisting of $3.5 million in monetary damages to aggrieved borrowers and a $55,000 civil penalty. Our prior legal alert about that settlement questioned the DOJ’s attempt to use disparate impact evidence to establish that GFI had engaged in intentional discrimination.
They might keep the mortgage interest tax deduction, but could slowly start increasing the little known mortgage tax that was passed by congress very end of last year. The mortgage tax was affective April 1st, 2012 is very small, it’s collected by Fannie and Freddie and sent to the US Treasury. You don’t see this rate, because it’s buried in the interest in your mortgage payment. I believe it’s .1%.
I wish they just got rid of it and lower the tax rate a little for everybody. Also, if it doesn’t really work as intended there is no keep.
The government works by passing small taxes that nobody notices, then they increase it over time. The income tax was tiny when it was first passed, and now look at it.
One factor working in favor of keeping the mortgage deduction is Obama Care. Part of the new taxes to go into effect in January will be a 3% or so tax on high income households for health care. The homebuilders, realtors, lenders, etc. will argue that with taxes going up already, repeal of the mortgage interest deduction would represent yet another tax increase at a time when homebuilding is struggling to recover.
I can’t stress enough the importance of the political know-how of the monied interests in understanding what legislation gets passed – and what legislation fails. The big lobbyists understand the nuances of Washington down to the last sub-comittee junior staffers. Committee staffs play an important role in determining what information gets to committee members and how it is “spun.” Morever, staffers know that today’s lobbyist is tomorrow’s prospective employer, so better take that meeting or return that phone call pronto.
The new ObamaCare Tax is on “investment income” – e.g. interest on savings, cap gains, etc.
I spoke with a political campaign consultant who told me the most difficult legislation to pass is anything that has a lot of money lined up on the “no” side of the bill. Some strong lobbies with big money will line up to fight any repeal of this tax break.
They should incrementally lower the MID year by year (say 50K per year) until it reaches the conforming loan limit. Who knows what the conforming loan limit will be in 10 years? That is one solution.
I like that idea. There is no reason these two subsidies should be given to different income groups. Unfortunately, it would also put political pressure to increase the conforming limit which I don’t want to see happen.
We had a first at 6.5% and second at 9% (until recently) and the MID subsidized our housing costs to the tune of ~$1,700 per month. That’s silly and crazy. On the other hand, also silly and crazy is paying a 43% marginal income tax rate.
If pigs can fly, maybe we’ll get a comprehensive tax reform bill by 2014 that eliminates all deductions and credits (keeping the EITC) with lower rates, still progressive, and many more brackets (e.g. 30% on $500k-$750k, 32% on $750k-$1.5m, 35% on $1.5m-$5m, etc.).
If the deduction were eliminated, someone in your circumstances would have $1,700 per month less to finance a home purchase. That would bring loan balances down and hurt pricing. I think it’s the right policy, but the pain of that change would have to be gradual so that the new equilibrium price is not substantially lower than today’s.
For me mortgage interest deduction was really just one factor in the total equation of buy vs rent, but I’ll admit that it can be a big one. There are also policies re: tax treatment of capital gains, deductibility of property taxes (Mello Roos, yikes!) that play into this.
In a lot of developed, wealthy countries, they do not have mortgage interest tax deduction: France, Canada, Australia, Germany, etc. However, you can deduct mortgage interest in Germany, Japan and Australia only against proven rental income (if you rent the house out).
The delta between market interest rates and the after-tax debt financing costs for housing in the US seems pretty significant though. This can create a pro-housing bias of the tax system. If you took it away, I’m sure the value of houses could decline for a while, even significantly. But wouldn’t market values be more reliable and stable longer-term as a result?
When the FTB announced that they would be prohibiting the deduction of Mello Roos for 2012 taxes and beyond, I got nervous. Then I removed Mello Roos from our 2011 taxes and realized it wouldn’t hit that hard, because the AMT is already taking back everything gained by deducting property taxes (including Mello Roos). If the FTB is able to maintain this position – that Mello Roos isn’t a property tax – then it will probably result in no change to our IRS liability and a couple hundred more in our FTB liability.
“But wouldn’t market values be more reliable and stable longer-term as a result?”
I think it would. It removes one more variable subsidy from the mix. The market will establish a new equilibrium and be more stable. Any time there is a market subsidy, the amount tends to fluctuate, and it creates uncertainty in the market as the participants worry about the future of the subsidy. Look at the angst in the comments above.
Uh-Oh…
Cordray downplays importance of safe harbor on QM
By Jon Prior September 20, 2012 • 11:53am
Consumer Financial Protection Bureau Director Richard Cordray told a House committee Thursday that mortgage lenders would still not be safe if the bureau elects to grant a safe harbor provision to the upcoming Qualified Mortgage rule.
“The safe harbor versus rebuttable presumption is a mirage,” Cordray said. “Even safe harbor isn’t safe. You can always be sued for whether you meet the criteria or not to get into the safe harbor. It’s a bit of a marketing concept there. The more important point is are we drawing bright lines? If someone were to say to me safe harbor or anything else, I would go with a safe harbor. But I don’t think safe harbor is truly safe. And I think it oversimplifies the issue.”
Rep. Michael Grimm, R-N.Y. then right away pressed Cordray on which he would choose: a safe harbor or rebuttable presumption. The director was forced to remind him the rule was still under development and would be finalized in January.
“I have not taken a position. I have discussed the issue,” Cordray said.
Mortgage industry lobbyists have been pressing the bureau since it overtook QM rulemaking responsibility from the Federal Reserve last year to install “clear, bright lines” and a legal safe harbor that protects lenders from future homeowner suits during foreclosure.
A rebuttable presumption provision allows homeowners to introduce evidence in court challenging whether the lender correctly determined a borrower’s ability to repay the loan before it was written. But a safe harbor allows a simple test for a judge to find if the mortgage met the QM rule, and frivolous suits could be dismissed early.
The Mortgage Bankers Association even showed the CFPB that attorney fees go up to an average $84,000 for a summary judgment from $26,000 if it’s dismissed. The risk of this increased cost would be passed on to borrowers, they claim.
Some consumer advocacy groups previously said such suits are rare, and a safe harbor could clear lenders from risks down the road rule makers cannot anticipate now.
Cordray repeatedly said in the hearing Thursday that his goal on QM and upcoming rules for the mortgage market is to protect consumers but not cut off access to credit. Forcing courts to define areas left gray by regulators is not something he would permit.
“As a former attorney general in Ohio, gray areas of the law are not appreciated,” Cordray said. “They’re difficult for people trying to comply. If we write rules that are murky, they’ll end up getting resolved in courts and it will take years and be very expensive. We are making real efforts to draw very bright lines.”
He is either insane or a complete idiot. Take your pick. The costs to litigate beyond a summary judgment go up substantially. To say there is no difference, is the equivalent of saying “There’s no difference between spending $10k to defend yourself and spending $50k to do so.”
[…] To follow up from yesterday’s post. […]