Tax reform changes could help consumers who rely on itemized deductions to lower their taxable income through mortgage interest payments and retirement savings.
President Trump is expected to embark on a plan next week to overhaul the current tax code which includes potentially lowering the corporate tax rate. Revamping the tax system is a key point among Congress and the current administration, especially since the president has reiterated a goal of achieving a 15% corporate tax rate.
Gary Cohn, the head of the White House National Economic Council, did not provide any concrete details on potential alterations in a Financial Times article, but he did note he was seeking a rate "as low as possible so that businesses want to create jobs here."
He specified that he plans to uphold the largest deductions for consumers regarding mortgage interest payments, retirement funds and charitable donations.
Homeowners currently benefit from allocating their savings tax-free into 401(k)s and IRAs and by deducting their mortgage interest because it lowers their taxable income.
Tax Deductions Give Homebuying a Boost
The mortgage interest deduction plays a large factor for many homeowners, because it effectively lowers their payments and is often a consideration for consumers who are debating whether to purchase a house. Taxpayers must itemize their taxes in order to take advantage of the deduction.
"For the millions of Americans who are struggling to stay afloat against a rising tide of debt, additional tax deductions could help if the savings is used to pay off high interest credit card balances and other costly financial obligations," said Bruce McClary, spokesperson for the National Foundation for Credit Counseling, a Washington, D.C-based non-profit organization.
Only 30% of households currently itemize their tax returns even though additional options for deductions would benefit many individuals, he said.
As home affordability in the U.S. had decreased due to a rise in the cost of housing, maintaining the deduction impact consumers, said Mark Hamrick, senior economic analyst and Washington, D.C. bureau chief of Bankrate, the New York-based financial content company.
"While there is no constitutional right to a mortgage interest deduction and it doesn't not need to be in a healthy functioning economy, it can affect the affordability for potential homeowners or the people who want to sell their homes," he said.
The deduction also feeds into the equation of how much homes are priced for, how much they are sold and even how a local market determines rental costs, Hamrick said.
The personal savings rates for Americans have not risen "much above recent historic lows, so clearing debt out of the way could make it easier for people to start strengthening that important financial safety net," said McClary.
More Money Saved for Retirement And the Middle Class
Consumers are also woefully behind in saving for their retirement, so retaining the tax deductible contributions for 401(k) plans and IRAs is "critically important," said Hamrick.
"We have a retirement funding crisis in the U.S. and the government needs to be focused on how to resolve that crisis," he said.
The largest regret that Americans have is failing to save enough money for retirement, based on Bankrate surveys.
"An elimination of the retirement savings tax incentive would obviously lead to people cutting back on their savings that would only be throwing further gasoline on burning fire," Hamrick said.
While some experts have said that mortgage interest deduction disproportionately benefits wealthier taxpayers, having the deduction remains one of the most valuable benefits of homeownership, said Andrew Weinberg, a principal of Silver Fin Capital Group in Great Neck, N.Y.
The mortgage interest deduction helps homeowner deduct the interest expense paid during the year from their taxable income. For a homeowner with a $400,000 mortgage at 4% on a 30-year mortgage, the monthly payment is $1,910, he said. The payment consists of paying down the principal and the interest. Over the period of a year, the taxpayer will have repaid about $16,000 of principal and paid $7,000 in interest expenses.
"That $7,000 can be deducted from your taxable income and at a 30% tax bracket, the deduction is worth $2,100 in this example," Weinberg said. "You can also deduct property taxes from your income, which benefits homeowners in areas where local property taxes are high like California and New York."
Taxpayers who itemize their returns can take advantage of other deductions such as real estate taxes and private mortgage insurance, said Rebecca Pavese, CPA, a financial planner and portfolio manager with Palisades Hudson Financial Group's Atlanta office.
"Interest paid on your mortgage loan as well as any interest on home equity loans or line of credit is deductible on Schedule A of your tax return," she said. "If you paid points to secure a better rate when you took out your mortgage, they are deductible the year it was paid."
Private mortgage insurance, which is commonly referred to as PMI, begins to phase out for homeowner's with an adjusted gross income of over $100,000. Homeowners often must pay PMI when they do not have enough savings for a standard 20% down payment.
The mortgage interest deduction benefits consumers, because it can incentivize them towards buying a home and building equity instead of renting, said Brian McDowell, a wealth manager at Cascadia Wealth Management in Portland, Ore.
"The ability to borrow at historically low rates combined with deducting interest makes buying a home one of the best overall asset purchases one can make," he said.
Tax-free contributions are also an asset for individuals, because it can "significantly lower their marginal tax bracket," said McDowell.
"This also incentivizes people to invest more now, which gives them more time in the market to grow assets," he said.
Both these deductions galvanize consumers to save more and purchase homes, "especially for middle class taxpayers to increase discretionary spending and overall net worth while improving savings rates," said McDowell.
Taxpayers benefit from these deductions, because it gives them the option to use pre-tax dollars for their retirement and pay for their homes, said Mike Greenwald, a partner at Friedman, a New York-based accounting firm.
"For example, to pay $1,000 of interest on a mortgage, a taxpayer with a marginal tax rate of 25% --taxable income from $37,950 to $91,900 -- would need to earn $1,333.33 if the interest weren't deductible," he said. "Cohn's comments are good news for taxpayers who currently own homes and are deducting mortgage interest because the long-term financial arrangements that they made based on existing tax law will not be adversely affected. Similarly, taxpayers whose ability to save for retirement is dependent in part on the tax deductibility of their contributions will be able to continue to save on a tax-advantaged basis."
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