Will current mortage rates make eliminating the mortgage interest deduction less painful?

President Barack Obama's bi-partisan deficit reduction commission has not flinched from targeting some sacred cows of American society, including the mortgage interest deduction. Predictably, there have been howls of protest against eliminating this tax benefit for home owners. However, if the deduction is on its way out the door, current mortgage rates make this the least painful time to remove that deduction.

Could getting rid of mortgage interest deductions hurt home ownership?

Mortgage interest deductions have become something of an institution. They are part of a public policy that encourages home ownership. This policy hasn't changed, though it has become somewhat tarnished by the mortgage crisis. Encouraging home ownership may be a good thing, but striving for universal home ownership has proven to be overreaching.

In any event, mortgage interest deductions are considered a sacred cow simply because so many Americans benefit from them. One argument is that if a person buys a house assuming that the interest deduction will be there for the duration of the mortgage, it isn't fair for the government to take it away.

Current mortgage rates--better than a deduction

Current mortgage rates, however, change the picture in two ways that should make eliminating the interest deduction more palatable:

• The deduction means less at current interest rates. Historically, mortgage rates have averaged 8.91 percent. Most Americans are at a federal tax bracket of 25 percent or less. That means that the interest deduction typically has been worth about 2.23 percent of a home owner's remaining mortgage balance. With current mortgage rates at about 4.5 percent, that same deduction is only worth about 1.13 percent of the mortgage balance.
• Current interest rates are a better bargain than the deduction. The reason the deduction is worth less than ever before is that current mortgage rates are lower than ever before. Which would you rather have--a deduction worth 2.23 percent with mortgage rates at their historical average of 8.91 percent, or no deduction with mortgage rates at 4.5 percent?

The mortgage interest deduction is a nice perk for home owners. However, if there ever was a time when they could afford to give it up, it's now.