The paper also questions whether the deduction really impacts home ownership decisions. "Higher-income households are more likely to be deciding how expensive a home to buy or how large a mortgage balance to maintain than whether to buy a home at all. Meanwhile, lower- and middle-income households, who are more likely to be on the margin between buying and renting a home, receive a much more modest benefit (or no benefit at all) from the deduction," the researchers wrote.
The subsidy is also tied to homeowners tax liability, which means it does not help troubled borrowers. "...the deduction is poorly suited to help struggling homeowners keep their homes. Homeowners whose incomes decline will receive a smaller subsidy if they fall into a lower marginal tax bracket. And homeowners whose incomes drop to the point where they owe no federal income tax that year (for example, because they lose their jobs) would lose the value of their deduction altogether, precisely when they are most likely to have difficulty making mortgage payments."
The Obama Administration has tried but failed to alter the deduction so that more middle-class households benefit. In each of the last four years it has proposed capping itemized deductions at 28%. This would lower the deductions for those in higher income tax brackets, while keeping the deductions unchanged in the lower income brackets.
Other plans have proposed lowering the limit on deductions to $500,000 and eliminating the mortgage interest deduction on second homes.The CBPP proposes replacing the deduction with a tax credit that would be a percentage of mortgage interest. "A credit, unlike a deduction, would benefit homeowners whether they itemize or claim the standard deduction," the paper explains. "And the tax benefit, rather than varying based on a household's marginal tax rate, would be a fixed percentage of the household's mortgage interest. This would shrink benefits for households in higher tax brackets but expand them or leave them unchanged for households in the lower brackets. " The researchers estimate that the tax credit would increase subsidies to lower income households by more than 30% and will help 16 million more homeowners.