How 'Fiscal Cliff' Could Affect Mortgage Interest Deduction
It is arguably one of the most popular U.S. tax deductions, and for some it is the necessary stimulus to buy a home.
The mortgage interest deduction, however, is now at risk, due to negotiations over the so-called "fiscal cliff"—the year-end deadline for large spending cuts and the expiration of tax cuts.
While it is impossible at this point to know what the outcome will be, it is certainly worth running through the possibilities.
First, let's do a primer on the deduction as it stands now:
The deduction lets homeowners reduce their taxable income by the amount of interest paid on their mortgage. This can be on the principal residence or a second home, but not on mulitple investment properties. Taxpayers are eligible for this deduction only if they itemize. Finally, the interest deduction is capped at $1 million of your mortgage.
This deduction, which is the largest housing-related subsidy in the U.S. tax code, reduced income-tax revenue by $79.9 billion in fiscal year 2007, according to the Office of Management and Budget. (Read More: Could Housing Be the Antidote to the 'Fiscal Cliff'?)
So what is that in real cash savings to taxpayers? Number crunchers at the Wharton business school did the math:
For those making less than $40,000 a year, the average tax savings is about $100. But in that bracket less than one-quarter of homeowners itemize deductionsl, so most don't get anything.
For those earning up to $250,000, the average savings, based on average mortgage amounts, would be $1,200-$2,600 a year. For those earning more than $250,000, and 100 percent of them itemize, the average savings is $5,400 a year.
Now to the proposals—and they are many.
One, released by the Simpson-Bowles commission, would cap the mortgage interest deduction at $500,000 of the home's value and limit the deduction to primary residences. (Read More: Fiscal Cliff: Complete Coverage.)
A bipartisan plan from Domenici-Rivlin would limit the deduction to just $25,000 worth of mortgage interest.
Other proposals include eliminating the deduction only for taxpayers earning $250,000 or more, ending the benefit for second homes, ending the deduction entirely or limiting the amount of all itemized deductions to $25,000. That last one was advocated by Mitt Romney, but apparently some Democrats on Capitol Hill are starting to espouse it. (Read More: Democrats Like Romney Idea on Income Tax)
Without one proposal leading the pack, again, it is impossible to boil down the real cost to homeowners, but suffice it to say that anyone in the business of home ownership is opposed to reducing the mortgage interest deduction.
"It's chilling the market," said Jerry Howard, CEO of the National Association of Home Builders. "Whenever there is uncertainty surrounding the value of an American home, why would you expect people to go out and buy a home? Or, just as much to the point, when there's uncertainty about the value of a home why would someone put their house on the market to sell it, that's why this whole debate to me is counter-productive and is only retarding the nation's economic recovery."
"The mortgage interest deduction is vital to the stability of the American housing market and economy, and we will remain vigilant in opposing any future plan that modifies or excludes the deductibility of mortgage interest," said Gary Thomas, president of the National Association of Realtors. (Read More: .)
Whatever the arguments for or against the mortgage interest deduction, two things are indisputable. Going over the fiscal cliff will kill the housing recovery, but said recovery is already so tenuous that yet another barrier to entry will hurt.
—By CNBC's Diana Olick
—Realty Check producer Stephanie Dhue contributed to this report.
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