Why They're After Your Favorite Tax Break

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Yet from a broader economic perspective, dropping mortgage-interest deductions has a certain appeal. For starters, it's only one part of a program that would reform the tax code without changing the burden on the average American. It would raise some taxes only as much as it cuts others. The real target is the alternative minimum tax (AMT), designed years ago to prevent millionaires from avoiding tax, but now increasingly encroaching upon the middle class. Next year the AMT will raise the burden of 21 million taxpayers earning as little as $75,000. But to replace the $1.2 trillion that the tax would bring in over the next 10 years, something sacred had to go, and that's where mortgage deductions come in. Of course, not extending the recent tax cuts due to expire by 2010 (capital gains, estate, child credit) would do the same trick, economists say. But under the President's orders, that option was off-limits.

On some levels the mortgage deduction has outlived its usefulness, anyway. Homeownership in the U.S. is among the highest in the world. Deductible mortgage interest appears to be subsidizing vacation homes and McMansions now, not entry-level housing. As a nation we are throwing so many resources at real estate that we may be underinvesting in other critical parts of the economy. While spending on homes is at a record 18% of GDP, our savings rate is nil and the stock market is going nowhere.

But don't worry: the proposal won't get past the blueprints soon. "We all realize the home-mortgage deduction is near and dear to the taxpayer," says James Poterba, an economist at M.I.T. who was on the panel. "But whenever we get to the moment of truth, Congress and the President are going to have to look at it. We believe we've provided important guidelines." In fact, the debate may have another, hidden benefit. If it stirs concern, maybe we'll start to rethink our move-up plans, put our money someplace more productive--and gently let air out of the housing bubble before it's too late.