ACCT 401 Week 7 Group Discussion Board Forum 4 Example

Group Discussion Board Forum 4: The Mortgage Interest Deduction

ACCT 401 Individual Taxation, Group Discussion Board Forum 4

Thread by [Student Name]

The couple and the classmates are composites; the 2025 standard deduction is the amount set by the July 2025 tax law, and the textbook, Scripture and research cited are real.

Ethan and Grace, a composite married couple filing jointly, bought their first home in January 2025 with a $300,000 mortgage at 6.5%. In the first year they pay about $19,400 of interest, $9,000 of state income and property taxes and $4,000 of charitable contributions, for itemized deductions of $32,400. Under the July 2025 tax law, a married couple filing jointly has a $31,500 standard deduction for 2025. Itemizing therefore gives them only $900 more in deductions than they would have had anyway, and in the 22% bracket that saves about $198 of tax. If their mortgage had been $250,000, their itemized total would fall below the standard deduction and the mortgage interest would save them nothing. I conclude that the mortgage interest deduction now does very little for most first-time buyers and is a poor way to encourage homeownership. The deduction becomes more valuable only as the loan, the interest rate or the couple's other itemized deductions grow, which means its benefit rises with the size of the house rather than with the need for help buying one.

Spilker et al. (2018) explain that taxpayers who itemize may deduct qualified residence interest on acquisition debt used to buy, build or substantially improve a main or second home. For debt incurred after December 15, 2017, current law limits that debt to $750,000 of principal. The deduction's value turns on two things: the bracket the taxpayer is in, which makes it richer for higher earners, and the excess of itemized deductions over the standard deduction. Since the standard deduction roughly doubled in 2018, most households no longer itemize, and those who do tend to have larger mortgages and higher incomes. The deduction also declines over the life of a loan, since each payment contains less interest than the one before, so even a couple who itemizes in the first year may stop itemizing within several years.

The research questions whether the deduction raises ownership at all. Gruber et al. (2021) studied a Danish reform that reduced the value of the mortgage deduction for middle- and high-income households and found a precisely estimated zero effect on homeownership. The deduction did lead homeowners to buy larger and more expensive houses and to take on more debt, and reducing it lowered equilibrium house prices. Sommer and Sullivan (2018) built a model of the U.S. housing market and found that eliminating the mortgage interest deduction would lower house prices, increase homeownership, reduce mortgage debt and improve welfare. A subsidy that raises the price of the house can take back from first-time buyers what it appears to give them.

Proverbs 22:7 warns that whoever borrows becomes servant to whoever lends (English Standard Version Bible, 2001/2016). Scripture does not forbid borrowing, and a home mortgage can be a wise way to provide for a family. But a tax rule that rewards larger loans encourages more of the burden the proverb describes, and the Danish evidence suggests that is how households responded. A tax adviser who explains to clients that the deduction may be worth far less than they expect helps them choose a home and a loan they can carry, which is better counsel than buying a larger house for the deduction.

Reply to Nathan

Nathan, you argued that the mortgage interest deduction is important because it helps families build wealth through ownership, and I agree that homeownership has long been a path to savings for many families. The question is whether the deduction is what makes that possible. Most of a family's wealth from owning comes from paying down principal and from appreciation, neither of which depends on deducting interest. Gruber et al. (2021) found no effect on whether middle- and high-income households owned at all when the deduction was cut; what changed was the size of the house and the mortgage. Households adjusted by buying somewhat less house and borrowing less, not by giving up ownership. The benefit also flows mostly to households that would have bought anyway. Because the deduction is worth more at higher marginal rates and only when itemized deductions exceed the standard deduction, a family in the 12% bracket with a modest mortgage typically gets nothing, while a family in the 35% bracket with a large mortgage gets a meaningful subsidy. Spilker et al. (2018) note that this difference follows directly from the mechanics of deductions, which reduce taxable income rather than tax. If the goal is to help families like Ethan and Grace build equity, a targeted first-time buyer credit, refundable and limited by income, would deliver more help per dollar than a deduction that rises with income and loan size. Sommer and Sullivan (2018) went further and found that removing the deduction would actually raise ownership by lowering prices, which suggests the wealth-building goal you describe might be better served without it.

Reply to Olivia

Olivia, you made a strong point that excluding the gain when a main home is sold is a far larger tax benefit for most homeowners than the mortgage interest deduction. Spilker et al. (2018) explain that someone who has both owned and lived in a home as a main residence for two years out of the five ending on the sale date may exclude up to $250,000 of gain, or $500,000 for a married couple filing jointly, and the exclusion can be used repeatedly, generally once every two years. Unlike the interest deduction, it does not depend on itemizing, so it reaches homeowners in every bracket. I would add one caution. The exclusion also has a cost to the Treasury that rarely appears in public debate, because it is simply never collected. The exclusion also favors buying larger and more expensive homes, since most of a typical family's housing gain escapes tax completely, while gains on other investments are taxed. Gruber et al. (2021) found that housing tax subsidies mostly change how much house people buy rather than whether they buy, and that result may apply to the exclusion too. Still, your comparison is right about the scale. For Ethan and Grace, the interest deduction saved about $198 in their first year, while the exclusion could shelter all of their gain if the home appreciates and they sell after living there several years. A complete analysis of the tax treatment of homeownership has to include both provisions, along with the fact that the rental value of an owned home is never taxed at all.

References

English Standard Version Bible. (2016). Crossway. (Original work published 2001)

Gruber, J., Jensen, A., & Kleven, H. (2021). Do people respond to the mortgage interest deduction? Quasi-experimental evidence from Denmark. American Economic Journal: Economic Policy, 13(2), 273-303. https://doi.org/10.1257/pol.20170366

Sommer, K., & Sullivan, P. (2018). Implications of US tax policy for house prices, rents, and homeownership. American Economic Review, 108(2), 241-274. https://doi.org/10.1257/aer.20141751

Spilker, B. C., Ayers, B. C., Barrick, J. A., Lewis, T. K., Robinson, J. R., Weaver, C. D., Worsham, R. G., & Outslay, E. (2018). Taxation of individuals and business entities (Custom ed.). McGraw-Hill Education.