Scott Van Voorhis

The mortgage interest deduction is the tax break all the smarty-pants love to hate, especially economists. It’s a big subsidy for wealthy homeowners and it doesn’t do much to encourage homeownership, they say. Worst of all, it encourages rapacious American consumers to go out and buy bigger homes, driving up prices.

Just about every think tank on either the right or left has rolled out a white paper over the past few years calling for the mortgage interest deduction to be scaled back dramatically or scrapped altogether. If anything, the popularity among the egghead set for nixing the mortgage deduction is on the rise, with the Trump Administration’s flatulent attempt to overhaul the nation’s tax system encouraging all sorts of loose talk.

But the big problem with the endless stream of reports calling for an end to the deduction is that they read as if they were written in an ivory tower, devoid of any understanding of the nitty gritty of the real estate market and how it actually works in the real world.

The reasoning goes something like this: The mortgage interest deduction encourages homeowners to take out bigger loans and buy bigger homes. Economists look at the mortgage deduction and see more money flowing into the hands of homebuyers who, they logically assume, will be using it to buy bigger and more expensive homes. Apparently human beings are automatons programmed to respond in predictable ways to various financial incentives.

In this skewed vision of the world, greedy homeowners, spurred by the promise of a big tax break on their mortgage, are driving up prices with their insatiable demands for open-concept kitchens, massive great rooms, extra bathrooms and luxurious master suites.

“It makes me wince a bit that we continue to subsidize the most sure-footed among us when it comes to buying a house,” Nelda Richardson, Redfin’s chief economist, told the Los Angeles Times.

If we lived in an economist’s dream world where supply and demand are perfectly balanced and every homebuyer is ruthlessly rational and counting every penny of every potential tax break, then this would make sense.

But that’s not how buyers behave, or how the real estate market works.

Market Drives The Buyers

Tell me, when was the last time you heard someone at the office bragging about now they decided to go all out on some enormous house thanks to the money they would save from the mortgage deduction?

“In my 32 years of residential real estate practice I’ve never heard words uttered that suggest the motive for trading up was a larger interest deduction,” said Elaine Bannigan, broker/owner at Pinnacle Residential Properties in Wellesley.

The economists who are so convinced that the mortgage deduction is warping the housing market are making a very big – and erroneous – assumption. In their obsession with tax incentives, the legion of economists who have taken to trashing the mortgage deduction have overlooked a far more powerful factor in shaping buyer behavior – the shortage of homes available for purchase.

In order for the theory that tax incentives are spurring buyers to actually work, there would have to be an abundance of larger, newly built home ready and waiting for buyers. As anyone who has had any experience in the real estate market in the past decade or two quickly finds out, it’s the market that is driving the homebuyers, not the other way around. And in high-demand, perpetually low-supply housing markets like the Boston, most buyers have a hard enough time landing something half decent, let alone the luxury to go out and splurge on a massive McMansion.

The other thing economists love to harp on when it comes to the mortgage deduction is how it’s a big sop to “wealthy” homebuyers. To prevent these supposed high-rollers from gorging at the public trough, some have proposed capping the mortgage interest deduction at $500,000.

While $500,000 may get you a nice big house out on the plains of Kansas, it’s hardly luxury territory. There are more than a few towns in Massachusetts that have median prices of half a million or more, including Natick and Watertown, which are hardly exclusive suburbs filled with rich homeowners. And there’s almost nothing for $500,000 in many Boston neighborhoods.

Basically, the proposal would deliver a nasty blow to blue states with high housing costs like Massachusetts and California, which may be the whole point of it, given the source.

Maybe when economists and politicians get serious about solving the housing supply problem that is driving prices into the stratosphere in Boston, San Francisco and so many other fast-growing cities, then, and only then, it might be worth revisiting the idea.

But until that distant day, scaling back or junking the mortgage interest deduction altogether won’t make the housing market fairer. Instead will make it a whole lot more miserable for a whole lot of homebuyers.