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Washington Wire: Gap in Housing Tax Subsidies Has Narrowed in Recent Budgets

Published by Michael J. Novogradac on Tuesday, January 1, 2013

Journal cover January 2013   Download PDF

As is the case every year, and required by the Congressional Budget Act of 1974, next month the president will release his estimates of the loss in federal tax revenue that is attributable to provisions in the tax law that allow a special exclusion, exemption or deduction from gross income, or that provide a special credit, a preferential tax rate or a deferral of liability.

Estimates of loss in federal tax revenue for the five years of 2013-2017 reveal that homeownership subsidies will outstrip rental subsidies by more than 19 to 1.

Homeownership vs. Rental Housing
While a majority of Americans are homeowners, the rates of homeownership have dropped since a peak homeownership level of nearly 70 percent in 2004. As of 2010, the national homeownership rate is 66.9 percent, meaning the number of those who must rent due to their economic status or through personal choice is growing. And despite some narrowing in the ratio of ownership versus rental subsidies, rental housing continues to receive short shrift from the federal tax code and other federal subsidies.

On the spending side, it’s unlikely that U.S. Department of Housing and Urban Development (HUD) will see any measurable increase in the coming few years. Pressure on discretionary spending is expected to remain intense as lawmakers continue to work toward deficit reduction. And despite HUD’s relatively flat budget in recent years, with a Republican-controlled House, additional cuts may be on the table.

Tax Expenditure Estimates
For the five-year period 2013-2017, federal tax expenditures for homeownership subsidies, measured on a cash basis, include $606.4 billion for homeowners’ interest deductions, $171.1 billion in capital gains exclusion, $140.6 billion in property tax deductibility and $9.1 billion in interest on exclusion on homeowner bonds, resulting in a total of $927.2 billion in subsidies for homeowners. It is noteworthy that each of these elements has decreased over the previous budget, resulting in a projected $50.4 billion less in federal tax expenditures for homeownership subsidies.

By comparison, for the same period 2013-2017, the federal tax expenditures that subsidize rental housing using the cash basis measure include $39.3 billion for low-income housing tax credits, and $7.7 billion in interest exclusion on rental housing bonds, generating a considerably smaller total of $47 billion in rental housing subsidies.

Comparison to Prior Years
The homeownership to rental tax subsidy ratio in the 2013 budget is down from the 2012 budget’s ratio of 22 to 1. Rewinding back five years, the gap was even wider and the ratio was 25 to 1 in the 2007 budget estimates. In the 2009 budget estimates there was a significant spike and the ratio climbed to 31 to 1 in favor of homeownership subsidies.

The smaller gap between homeowner subsidies and rental housing subsidies represented in more recent budgets is generally the result of declining interest rates and falling home prices, not the result of any conscious public policy. The president’s budget proposal next month is not expected to contain major changes in the make-up of these amounts. Nevertheless, now is time to call for the narrowing of the gap between the tax dollars used to encourage homeownership and the tax dollars provided for rental housing.

Tax Reform
If there is a silver lining to be found, it may be that the relatively small amount of subsidy provided to rental housing in the tax code makes it a less viable target for elimination during efforts to “broaden the base.” Broadening the base creates tax revenue to lower income tax rates. First, the LIHTC ranks 27th in projected revenue effect among income tax expenditures in the FY 2013 proposed budget. However, the source of potential revenue is considerably smaller. (See blog postings from Nov. 2, 2011 and Oct. 12, 2011.)

Short of elimination, there is also the possibility that LIHTC volume cap could be reduced as part of tax reform. However, such a reduction wouldn’t be necessary to accomplish deficit reduction and tax reform because, in fact, the tax expenditure cost of the LIHTC could cost less under certain tax reform proposals–even if the volume cap is left unchanged.

For example, a drop in the top tax rate from 35 percent to 25 percent will reduce the tax benefit of the depreciation losses that an investor gets from an LIHTC investment. During the 15-year life of the LIHTC, the cost of the LIHTC tax expenditure would fall by an estimated 7 to 8 percent. (Note: These calculations assume a 9 percent credit new construction investment. A tax-exempt bond financed and/or acquisition rehabilitation investment will have an even larger percentage reduction in total associated tax expenditures.)

Nevertheless, it will be important to defend and support this provision from being mislabeled and misunderstood. Tax credits like the LIHTC are often lumped in with all federal tax expenditures claimed by corporations, presenting the inaccurate impression that all federal tax expenditures are alike.

In discussions about broadening the base, it will be crucial for the affordable housing community to make clear the philosophical difference between tax expenditures that create direct social impacts and those that create spillover social impacts. (See blog posting from Feb. 22, 2011.) The LIHTC creates more affordable housing and as the nation continues to recover from the Great Recession, the need for that rental housing is greater than ever.

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