THE GREAT MORTGAGE TAX DEDUCTION SCAM….I’ve gotten a few emails asking why Marian and I pay so much in taxes. The short answer is that we have no kids and no mortgage, and thus don’t benefit from either of these common deductions.

This is sad, of course, but at least it gives me an excuse to complain about the great mortgage interest deduction shell game, a grand con in which middle class taxpayers are convinced they are getting a break from Uncle Sam. But it ain’t so.

If there were no mortgage interest deduction, what would happen? Let’s take a look at how house prices are set for a single individual:

  • You decide how much you can spend. Let’s say it’s $1000 per month.

  • You figure out how much you can bid based on your maximum monthly payment. Of course, you include the tax break you’re going to get, so you figure you can afford a gross payment of $1,300 per month, which works out to a bid of (let’s say) $200,000.

  • You bid $200,000, it’s accepted, and shortly thereafter you move in.

But what if there were no mortgage interest deduction? You can still afford a net payment of only $1000 per month, and since everything else is equal, that equates to a bid of $160,000. So you bid that.

Now spread this out to the entire house-buying public. Everyone would be bidding less than they do now, and since supply and demand determines house prices, the price of houses would come down. That $200,000 house would be a $160,000 house.

The net result is that under the current system you pay a higher mortgage but lower taxes. Without the mortgage deduction, your taxes would be higher but your mortgage would be lower. So who benefits? Not you: you’re paying the same net amount either way. Rather, the beneficiary is the housing industry and the original landowners, who are able to charge artificially inflated prices thanks to government tax breaks.

Remember this the next time you think you’re paying low taxes because you just deducted twenty grand in mortgage interest on your 1040. You are paying lower taxes, but you’re also paying a higher mortgage than you should. You get nothing out this deal, Uncle Sam gets lower tax receipts, and builders make out like bandits.

I have no idea whether pointing this out is a liberal idea, a conservative one, a libertarian one, or what. But it’s the truth. We should phase out the mortgage interest deduction and reduce actual tax rates instead of continuing the shell game. Write your congressman.

UPDATE: Two things. First, I am reliably informed that this analysis is sort of correct, but not completely. If I learn more, you’ll be the first to hear it. LATER: I’ve learned more. Here it is.

Second, several people have written to ask how the mortgage interest deduction could be eliminated. After all, current homeowners would lose a bundle. My guess is that you’d need either a slow phaseout of the deduction or else you’d have to grandfather existing mortgages, or perhaps a combination of the two. In addition, since sellers would take a big hit on the selling price, you might need some kind of one-time tax rebate to compensate them.

Or something. I’m not sure what the answer is here, but tax policy guys like Max are a bright and sneaky bunch and I’ll bet they could come up with something that was tolerably fair.