Fifteen years ago, Carol Nietmann and her husband bought a spacious house in Maryland near Chesapeake Bay. And thanks to the time-honored tax deduction for mortgage interest, she said, their new place was a little bigger and a little nicer than they would otherwise have thought they could afford.
Much the same has been true for millions of Americans up and down the income scale. Perhaps the most sacred of all the sacred cows in the tax code, the home mortgage deduction has long been seen as crucial to a major element of the American dream — owning your own home.
It has also been a boon to home builders, construction workers, the financial services industry and local governments.
But nearly a century after coming into existence, the mortgage deduction may face a day of reckoning next year when the new Congress — including a lot more deficit-hawk Republicans — takes over.
In part, the hoary deduction has a target on its back as a result of policymakers rethinking the whole issue of homeownership. In the wake of the havoc that followed the latest housing bust, it's no longer so clear that near-universal homeownership should be a paramount goal.
Scholars have long argued that the mortgage deduction and other tax subsidies supporting housing, including a deduction for property taxes and tax exemptions for profits on home sales, are neither equitable nor economically efficient. Some say they've helped skew the economy's reliance on an industry that has little export potential and often encourages overconsumption.
"It's fair to ask whether (government money) is best spent on housing or plants and equipment or other investments," said Richard K. Green, director of the Lusk Center for Real Estate at the University of Southern California.
More important, despite the deduction's grip on the public and politicians, changing it as part of a package of other revisions offers Washington a chance to do something meaningful about the surging federal deficit: generate billions more in federal revenues that could cut the deficit while inflicting surprisingly little pain on most middle-class homeowners.
The National Association of Realtors already is running ads warning that tampering with the deduction would hurt "hard-working American families." The ads point out that 65 percent of the taxpayers who took the deduction made less than $100,000.
What the group doesn't say is that about 75 percent of the entire $85.5 billion that people saved in taxes from the mortgage interest deduction in 2008 went to individuals or couples making $100,000 or more, according to the latest data analysis by the congressional Joint Committee on Taxation.
Based on the committee's numbers, taxpayers who took the mortgage deduction saved, on average, $2,330 in 2008. But for those reporting incomes of $200,000 and more, the average savings were nearly triple that amount.
About half of all U.S. homeowners — and just a quarter of all taxpayers — benefit from the mortgage interest deduction at all. That's because most people don't have home loans or don't pay enough in mortgage interest to take advantage of the benefit.
Also left out are many homeowners in cheaper housing markets, though people with pricier homes and larger mortgages — many of them younger Americans in coastal cities in California and on the East Coast — reap a disproportionately large share of the tax savings.
In 2009, couples filing joint returns needed mortgage interest and other deductions over $11,400 to make it worthwhile to take advantage of this tax preference.
The deficit commission's plan would do away with itemized deductions and allow every homeowner to get a tax credit equal to 12 percent of interest paid on mortgages up to $500,000.
Replacing the mortgage deduction with a tax credit "would reduce the tax subsidy by a decent amount for a small fraction of the population and increase it by a small amount for a large number of lower-income households," said Todd Sinai, a real estate and taxation specialist at the University of Pennsylvania's Wharton School.
He predicted that the upper-end housing market could see a decline of a few percentage points relative to what would happen without a change in tax code. That means home prices wouldn't necessarily drop as a result, but if values in those markets increased 10 percent, they would grow a few points less.
Even that may be too much for the banged-up housing market, homeowners and industry executives fear. With prices still depressed and more than one-fifth of homeowners owing more than the value of their properties, reducing or eliminating the mortgage deduction would be disastrous, they said.
Many experts don't think an elimination of the mortgage deduction will hurt homeownership, though they say it is likely to influence the size of homes people buy, as well as other personal financial decisions. More people may pay down mortgages or invest if they see less tax benefit in a big home loan.
Analysts point out that other countries, such as Canada and Australia, have high homeownership rates similar to the United States, currently at 67 percent, without such housing tax subsidies.