Home Interest Tax Savings Are Always Overestimated

When a borrower takes out a home loan, the interest is tax deductible up to a certain amount. For borrowers in the highest marginal tax bracket, the savings can be significant, and this can make a dramatic difference in the true cost of ownership. However, this benefit diminishes over time as the loan is paid off and the interest decreases, unless of course, the borrower has used a toxic interest-only or negative amortization loan.

There is a widespread belief in the general public that maximizing home mortgage debt is a good thing because of the tax savings. This is crazy. Contrary to popular belief, it is never good financial planning to spend $100 to save $25 in taxes.

These benefits are almost universally overestimated by people considering a home purchase. Renters considering home ownership will need to remember that they will be giving up the standard deduction when they itemize to obtain the Home Mortgage Interest Deduction (HMID). A "married filing jointly" taxpayer will forgo a $10,700 deduction in 2007. This reduces the net impact of the HMID.

It is easy to run a comparison in a tax preparation software. Many have done this. Anecdotally, even those in the highest tax brackets usually do not get more than a 25% tax savings. Even in high-tax states like California, the HMID is not the deal people think it is. People who are motivated to buy due to the tax savings offered by the home mortgage interest deduction are foolish; particularly when the total cost of ownership exceeds the cost of rental even after the deduction is figured in. This was common during the Great Housing Bubble.

Lawrence Roberts is the author of The Great Housing Bubble: Why Did House Prices Fall? Learn more and get FREE eBooks at: www.thegreathousingbubble.com/ Read the author's daily dispatches at The Irvine Housing Blog: www.irvinehousingblog.com/ Visit Home Interest Tax Savings Are Always Overestimated.

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