(This post is part of a series of entries examining the Deficit Commission Co-Chairs’ Proposal. For the summary post in the series, please start here.)
The Zero Plan
Under the co-chairs’ so-called Zero Plan, all tax expenditures would be eliminated, including the mortgage interest deduction (MID), the real estate tax deduction for homes, the capital gain exclusion for principal residences, the 27.5 year depreciation period for rental housing and the Low-Income Housing Tax Credit. In return, the proposal would lower individual and corporate tax rates. The alternative minimum tax (AMT), a bane for small businesses, middle-class taxpayers in high-cost areas, and tax planning in general (absent an annual AMT patch) would also be repealed under most of the proposals.
Under an optimistic scenario (read here for more on why these rates are likely unrealistic), there would be three tax brackets at 8%, 14% and 23% for individual taxpayers (including those reporting business income taxes as pass-thru entities, such as LLCs and S Corporations). The corporate rate would fall to 26%. Capital gains and dividends income would be taxed at ordinary income tax rates, which for many taxpayers reporting such income would be at rates higher than today’s 15% rate.
What are the impacts on housing? Recent homebuyers, who are in the early years of amortizing a mortgage and thus paying large amounts of interest, would face higher taxes. It is worth noting that no transition rules, which are the nuts and bolts of tax policy, are identified. Moreover, all homeowners would suffer a windfall loss as housing prices decline due to the policy change. Current home prices reflect the capitalized effect of today’s rules-of-the-game, including a deduction for mortgage interest. Declines in housing affordability for those who use debt, which is critically important for housing finance, and further price declines, would in turn undermine the emerging stability in the housing market and push additional homes into foreclosure.
The Zero plan also includes of a set of alternatives. Certain tax expenditures, such as mortgage interest, could be brought back at reduced or 100% levels (albeit “reformed”, which is not detailed) but with higher individual and corporate tax rates. For example, bringing these tax expenditures back at an 80% level (how that 80% is achieved is not explained) would increase the individual rates to 12%, 20% and 27% and the corporate rate would increase to 27%.