A study published by the National Bureau of Economic Research, Do People Respond to the Mortgage Interest Deduction? Quasi-Experimental Evidence from Denmark, indicates that the mortgage interest deduction fails to promote homeownership, but induces homeowners to buy larger, more expensive homes and incur greater debt.
The study examines the impact of a 1987 reform of Denmark’s mortgage interest deduction. Denmark has three tax brackets. The reform sharply reduced the mortgage interest deduction’s benefit for households in the top tax bracket, reduced the benefit to a lesser extent for the middle tax bracket, and raised it slightly for the bottom tax bracket. Matching income tax records to housing records for households within each bracket, the authors analyzed how the reform affected homeownership, home size and value, and interest payments on debt.
The study found that the reform had no discernable effect on whether households chose to own or rent. The reform, however, generally caused households whose mortgage tax benefits were reduced by the reform to purchase smaller homes of lesser value afterwards. Compared to the bottom two tax brackets, the reform also led top-bracket households to significantly reduce interest payments. The authors assume this resulted from households taking on smaller mortgages, since mortgages are the most significant source of homeowner interest payments.
The study concludes that the mortgage interest deduction does not increased homeownership and any broader societal benefits associated with homeownership cannot be attributed to the deduction. Furthermore, the mortgage interest deduction appears to cause homeowners to purchase larger, more expensive homes, which the authors suggest leads to an overinvestment in housing and excessive homeowner debt.
Do People Respond to the Mortgage Interest Deduction? Quasi-Experimental Evidence from Denmark is available at: http://bit.ly/2utatZP