Will the GOP Tax Bill Hurt Home Values?

Will the GOP Tax Bill Hurt Home Values?
AP Photo/Steven Senne

If the new Republican tax plan becomes law, homeowners may have reason to worry. While the House and Senate each have somewhat different versions, each proposal would limit housing-related write-offs, with potentially harmful consequences for homeowners across the country.

In the version that passed the House, only the first $10,000 in property taxes would be deductible. For new mortgages, mortgage deductions would only be allowed on the first $500,000, down from the current limit of $1 million. The Senate Finance Committee passed a cut that would entirely repeal deductibility of property taxes. Both chambers have a version that would double the standard deduction — meaning that few households would take advantage of mortgage interest and property tax write-offs, anyway. The plans also lower tax rates on individuals and corporations.

Determining the impact these proposed changes would have on housing is complex. Starting with the obvious, by limiting write-offs for property taxes and mortgage interest, the Republican tax plan would make homeownership more expensive. Prospective homebuyers would account for these changes when shopping for houses and accordingly offer less.

This can add up over time. For example, let’s say a prospective buyer in the 25 percent tax bracket expected to annually pay $15,000 in mortgage interest and property taxes. Under the existing system, these $15,000 in deductions would take $2,500 of the homebuyer’s tax bill. Allowing only, say, $10,000 in deductions makes homeownership $1,250 more expensive every year — or almost $40,000 more costly over the course of a 30-year mortgage. And these impacts would not be spread evenly, disproportionately hitting homeowners in high-cost, high-tax areas — namely, the corridor between Boston and DC, California, and some Midwest metro areas.  

While it may seem counterintuitive, lower tax rates also lower the value of the mortgage interest deduction. Take someone in the 39.6 percent tax bracket writing off $10,000 in interest. In this case, the deduction is worth $3,960 in lower taxes. But if the person’s tax rate drops to 35 percent, the annual value of the deduction falls by nearly $500 to $3,500.

There are other indirect effects, too. The House’s plan would raise the deficit by roughly $1.5 trillion over 10 years. Higher deficits mean more government borrowing, which means higher interest rates — and more expensive mortgages. Research by economists William Gale and Peter Orszag finds that raising projected long-term deficits by 1 percent of GDP will raise interest rates by about 30 basis points, boosting payments on a new 30-year, $400,000 mortgage by roughly $25,000 over the life of the loan.

A less obvious effect is the impact of a corporate rate cut. The centerpiece of the Republican plan is a massive cut in the corporate rate from 35 percent to 20 percent. Because corporations are owned by shareholders, cutting taxes on publicly traded companies boosts equity prices and returns on stock investments (although this impact is complex and highly uncertain). To the extent that housing and stocks compete for investors’ dollars, making equities relatively more appealing can drive down home values.

The GOP plan could also make housing prices more volatile. Under the proposal, few owner-occupiers would deduct mortgage interest, but the benefit would still be available as a business expense to speculators looking to flip homes. A new working paper by Anthony DeFusco, Charles Nathanson, and Eric Zwick confirms that short-term investors had a major role destabilizing home prices in the housing crisis that precipitated the Great Recession. Giving speculators a leg up over homeowners could set the stage for more harmful movements in home prices.

Lastly, there is what economists call the “income effect,” meaning how consumers act when they have more money to spend. By passing a massive deficit-financed cut, lawmakers are effectively borrowing from future generations to boost the wealth of taxpayers today. And all those trillions in extra wealth means taxpayers can buy a lot more, including homes.

All in all, we really don’t know definitively what the GOP tax cut’s impact would be on housing. But it could be steep. Dennis Capozza, Richard Green, and Patric Hendershot found that eliminating the mortgage interest and property tax deductions could lower urban housing prices by as much as 17 percent. In my own research, I have found that eliminating itemized deductions could lower metropolitan housing prices by around 12 percent. These are probably both overestimates, because the GOP plan would preserve part of the mortgage interest deduction. And both studies employ simulations that rely heavily on uncertain assumptions. There is a wide range of possible outcomes.

However, it seems reasonable to conclude from what evidence we do have that the tax cut will have at least a slightly negative impact on housing. True, we really don’t know for certain whether the Republican tax plan would hurt housing prices or by how much. But with a housing crisis in our collective rearview mirror, that kind of uncertainty is bad enough.

Benjamin Harris is a visiting associate professor at the Kellogg School of Management at Northwestern University and was formerly the chief economist to Vice President Biden.

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