Tax Policy and Housing

Taxman — The Beatles

Let me tell you how it will be,
There’s one for you, nineteen for me,
‘Cos I’m the Taxman,

Tax policy and its relationship to housing is a big topic. This post will not be a comprehensive treatise on the subject. I will look at several areas of tax policy and see what incentives they create and how changes in these areas would impact housing prices. This includes three broad areas: ownership taxes and subsidies, debt subsidies, and appreciation taxes.

  • Ownership taxes and subsidies include property taxes, special tax levies, and the impact of proposition 13.
  • Debt subsidies include the home mortgage interest deduction and its relationship to the personal exemption.
  • Appreciation taxes are capital gains and income taxes from the profitable sale of residential real estate.

Ownership Taxes and Subsidies

Property taxes have long been a source of local government tax revenues. Real property cannot be moved out of a government’s jurisdiction, and values can be estimated by an appraisal, so it is a convenient item to tax. In most states, local governments add up the cost of running the government and divide by the total property value in the jurisdiction to establish a millage tax rate. California is forced to do things differently by Proposition 13 which effectively limits the appraised value and total tax revenue from real property. Local governments are forced to find revenue from other sources. Proposition 13 limits the tax rate to 1% of purchase price with a small inflation multiplier allowing yearly increases.

Proposition 13 tends to limit move-up trading because it requires owners to increase their property tax bill, sometimes dramatically. There are basis transfers and ways around this problem for certain people who qualify, but there is a documented tendency among California home owners to stay in their homes because they end up trapped there by the tax savings. This Wikipedia article has a good discussion of the impact of Proposition 13.

Many people who bought at the peak are seeing property tax relief as prices fall. Most do not realize that their property tax bills will rise with appraised values until they hit their purchase price. They are not locked in to the new lower tax basis. New buyers who enter at lower prices are. For instance, say a peak buyer paid $1,000,000 in 2006. In 2011, his tax basis has been reduced to $500,000 with the surrounding property values. A 2011 buyer who pays $500,000 also shares this $500,000 tax basis. However, as property values rise back to $1,000,000, the peak buyer is going to be reassessed every year until his cap is hit at $1,000,000 plus annual allowed increases. The buyer at $500,000 will not face these same increases in property tax. Timing Does Matter.

Proposition 13 opponents point to the deterioration of California’s public schools since its passage as a big reason it should be repealed. However, since our property prices are so volatile, repealing proposition 13 is very unlikely. If we could reduce volatility in the housing market, the impact of Proposition 13 would be negligible, and there would be no need to repeal or reform it. That being said, there is one reform I believe would bring some fairness to this tax. Right now, the yearly allowed increases are less than wage and price inflation. If the escalator in Proposition 13 were tied to the Consumer Price Index, much of the subsidy given to long-term homeowners would be reduced, and tax revenues would better match inflation.

Mello Roos taxes are paid to service and retire development bonds taken out by the original land developer. These taxes come out of a potential buyers money available for a payment, so Mello Roos depress housing prices. One good strategy is to buy in a neighborhood where Mello Roos payments are about to end. The other potential buyers bidding on these properties will all be limited in their loan amounts by the Mello Roos payments, so imminent expiration will not have much impact on pricing. However, your future buyer will not face these payments, and when they do expire, you will see an increase in property value.

Debt Subsidies

Debt subsidies, in particular the home mortgage interest deduction, are seen as a great benefit to home ownership. The benefit is widely overestimated and misunderstood.

First, people fail to understand that to obtain a debt subsidy, you must have debt. You must be making an interest payment on this debt in order to qualify, and you get to reduce your tax burden by a small percentage of the interest amount. In short, you are paying a dollar to save a quarter. There are people who actually seek to maximize their interest payments in order to increase this subsidy. This is really, really foolish. Anyone out there who believes it is a good idea to spend $1 to receive $0.25 in return, please send me as much money as you wish, and I promise to send back 25% of it.

Realtors try to con people with the “throwing your money away on rent” argument. Homeowners buy into the fallacy. Interest is the rent on money. You throw away money on interest just like you throw it away on rent. In fact, people who overpay for housing throw away more money on interest than renters do to obtain the same property, even after the tax subsidy. The only argument one can make for paying extra interest is if you are receiving a return on that investment through property appreciation. We all see how that is turning out.

The main reason the benefits of the home mortgage interest deduction are overestimated is because people forget they must give up the standard deduction in order to obtain it. This is one area where tax policy can have hidden and indirect impact on housing. Changes in the standard deduction greatly impact the benefit of the home mortgage interest deduction. As the standard deduction is increased, the positive impact of the HMID is decreased. In fact, if the standard deduction were doubled, the average American holding a $150,000 mortgage probably would not bother itemizing to obtain the HMID because it would be of no tax benefit at all. This would certainly simplify people’s tax returns. A higher standard deduction is also a boon to renters who do not have the option of obtaining the HMID.

When we set up the RentVsOwnulator, we put in a 25% tax benefit from the HMID. Some people have commented that this is too small a number. It is not. Several people have run the calculations both with and without the HMID, and the net difference is only 25% even at the highest tax brackets. Basically, if you want to figure out your real tax benefit, take your highest marginal tax rate and subtract 10%. That will be a much closer estimate to reality. This reduction is caused by losing the standard deduction.


Another facet to the HMID is the cap level. Currently mortgages up to $1,000,000 are eligible for the deduction. Does anyone think this is right? Do you realize you as a taxpayer are subsidizing $1,000,000 mortgages? When the GSEs were set up, they established a conforming loan limit. The reason they did this is because they are mandated to subsidize mid and low income housing. Why is the limit on the HMID any higher than the conforming loan limit from the GSEs? Why are we subsidizing high income borrowers?

If we were to reduce the HMID cap level to $500,000 and adjust it by the CPI going forward, we are still subsidizing relatively high income borrowers ($500,000 is still almost triple the median home price in the US). A reduction in this cap would have the same impact as the lower GSE conforming limit is having: it would lower prices at the high end by eliminating the subsidies.

IMO, the government has no place in subsidizing house prices that are well above the median. One can argue that the government should not be subsidizing anything in housing, but the low and middle income subsidies are here to stay. If we raise the standard deduction and lower the HMID caps, we can greatly reduce the impact of the HMID and the cost we pay for it as taxpayers. This would have the effect of lowering prices on more expensive homes, but it would help stabilize the lower end of the market. That is what the market needs right now.

In a post last week, we examined a proposal from John Burns to subsidize housing further by temporarily doubling the HMID. The problem I have with this is the same one I have with all temporary subsidies: how do you end them? Anyone who buys under temporary terms will be hurt when the subsidies are removed. This will cause everyone involved to lobby Congress to make them permanent. Permanently increasing housing subsidies will only make the problem worse at taxpayer expense. In the short term, the Burns’ proposal probably would help stabilize the housing market. If it were not capped it would be a huge tax break for people with large mortgages. It might even ignite another unsustainable rally and postpone the crash temporarily. None of this benefits the housing market long term.

Appreciation Taxes

Should five per cent appear too small,
Be thankful I don’t take it all.

A couple of weeks ago, I was contacted by an author named Bill McKim. He has written a pamphlet titled The Financial Crisis of 2008. In it he makes one simple, yet far-reaching proposal that would eliminate volatility in California’s residential real estate market: Tax capital gains due to irrational exuberance at a 100% rate. I must admit, that certainly would do it.

Our current system of calculating and enforcing taxes on property appreciation are a big part of the problem, and reform here is necessary. In short, gains on the sale of a primary residence are largely untaxed (there are complicated rules I will not go into here). There is no other asset class that receives such a generous government subsidy. If you sell most any other asset class for a profit, and you will be paying either personal income taxes or capital gains taxes depending on how long you owned the asset. With housing, most people either qualify for the tax break, or they claim they do and don’t get caught.

For most very long-term homeowners, much of the gain they recognize when they sell their houses is due to inflation. Taxing capital gains caused by inflation actually hurts the long term homeowner. A homeowner who sells after 30 years may not see any gain in value beyond inflation. The money returned to them has the same buying power as when it was put in to the asset. For the government to take a percentage of this inflation-induced gain is to rob the long-term homeowner of buying power. This is a valid reason not to tax capital gains on housing.

Unfortunately, when the Congress looked for a method of overcoming the tax problem of capital gains on long-term home ownership, the method they chose was deeply flawed. They simply put in a large tax break without regard to ownership period. It becomes a huge tax break for property flippers. Rather than benefiting long-term homeowners and encouraging that behavior, the government ends up encouraging frequent property turnover.

The solution to this tax problem is simple. Adjust the purchase price tax basis by the Consumer Price Index. Long-term homeowners would see a significant adjustment in the tax basis of their home while flippers would not.

The next issue is how much to tax the gain itself. Bill McKim proposes that the government should take it all. This would remove all incentive to buy for appreciation, and it would stop irrational exuberance in its tracks. That is probably not a tax policy that would ever get implemented. However, the idea is sound. Once the basis is adjusted for inflation, the tax rate on gains will greatly impact buyers and sellers. The higher the tax rate on capital gains, the less people will seek them, and the lower the market price volatility will be.

Another way to encourage long-term home ownership is to provide a lower capital gains tax rate only to long-term homeowners. For instance, a person who buys and sells a property and holds it for less than 3 years could be taxed at higher personal income tax rates. People who hold a property for more than 3 years would be taxed at lower capital gains tax rates. This would greatly inhibit the mindless flipping done by people who do not improve property.


Tax policy is complicated, and its impact on housing is important. The tax policies of The Great Housing Bubble contributed to its inflation, and there are many proposals to use tax policy to ease its deflation. There are some proposals I believe would be helpful, and some that would not. Now is a good time to take a hard look at the incentives these tax policies create and ask ourselves if the subsidies we provide as a society are providing us with the benefits we seek.

Today’s featured property is a small apartment condo. It is also a 2003 rollback (almost).

16 Lakepines inside

Asking Price: $335,000IrvineRenter

Income Requirement: $83,750

Downpayment Needed: $67,000

Monthly Equity Burn: $2,791

Purchase Price: $450,000

Purchase Date: 5/18/2006

Address: 16 Lakepines, Irvine, CA 92620

Beds: 2
Baths: 2
Sq. Ft.: 1,204
$/Sq. Ft.: $278
Lot Size: 868

Sq. Ft.

Property Type: Condominium
Style: Contemporary
Year Built: 1977
Stories: 2
Floor: 1
Area: Northwood
County: Orange
MLS#: S560202
Source: SoCalMLS
Status: Active
On Redfin: 2 days


Great buy in North Woods.! Light and Bright Home with Vaulted Ceilings,
Wood Laminate Flooring and Lots of Storage. Step Down Living Room with
Fireplace. Large Private, Fenced Back patio. Amenities include Enclosed
Laundry, Walk-In Closet and Skylight. Association Pool and Spa. Close
to award winning schools, Beautiful Parks, shopping and the freeway.
Low Tax, No Mello Roos!

I have never seen a period followed by an exclamation point before. Very creative.

As you might have guessed, this property was bought by a flipper with 100% financing. It was purchased on 5/18/2006 for $450,000. The owner used a $360,000 first mortgage, a $90,000 second mortgage and a $0 downpayment. The bank took back the property on 11/12/2008 for $320,000. If this property sells for its asking price, and if a 6% commission is paid, the total loss to the lender will be $135,100.

This property is being offered for 26% off its peak purchase price. IMO, that is not near enough to sell it…

Check out this price history.

Date Event Price Appreciation Source
Jan 16, 2009 Listed $335,000 SoCalMLS #S560202
Dec 19, 2008 Listed $335,000 MRMLS #T08174576
May 18, 2006 Sold $450,000 12.4%/yr Public Records
Sep 11, 2003 Sold $329,000 21.4%/yr Public Records
Oct 26, 1999 Sold $155,000 -0.2%/yr Public Records
Jun 27, 1991 Sold $157,500 54.5%/yr Public Records
Nov 28, 1990 Sold $122,500 -6.1%/yr Public Records
Feb 16, 1989 Sold $137,000 Public Records

This property is almost a 2003 rollback. By the time it sells, it almost certainly will be.



Let me tell you how it will be,
There’s one for you, nineteen for me,
‘Cos I’m the Taxman,
Yeah, I’m the Taxman.
Should five per cent appear too small,
Be thankful I don’t take it all.
‘Cos I’m the Taxman,
Yeah yeah, I’m the Taxman.

(If you drive a car car), I’ll tax the street,
(If you try to sit sit), I’ll tax your seat,
(If you get too cold cold), I’ll tax the heat,
(If you take a walk walk), I’ll tax your feet.

‘Cos I’m the Taxman,
Yeah, I’m the Taxman.
Don’t ask me what I want it for
(Ah Ah! Mister Wilson!)
If you don’t want to pay some more
(Ah Ah! Mister Heath!),
‘Cos I’m the Taxman,
Yeeeah, I’m the Taxman.

Now my advice for those who die, (Taxman!)
Declare the pennies on your eyes, (Taxman!)
‘Cos I’m the Taxman,
Yeah, I’m the Taxman.
And you’re working for no-one but me,

Taxman — The Beatles

This has been a long post. Monday’s often are.

36 thoughts on “Tax Policy and Housing

  1. scott

    Great post. Couple comments:

    – On the capital gain tax, you could simply allow people to increase their cost basis by CPI (would allow this also for assets like stock) so that you’d pay any capital gain tax on inflation equity.

    – Wouldn’t you consider Prop 13 a cause of the bubble in California versus other higher priced but higher taxed states? For example here in Northern NJ we don’t have prop 13 but taxes average around 1.75-2% of your houses value. And these go up at least at inflation rate. Now this is a high (but deductible) burden and I don’t enjoy paying it and with high prop tax you can’t qualify for as much debt with FNMA conforming DTI ratios and can’t assume minimal rises

    – I’d suggest the max deductible interest should be based on FNMA conforming limits…this allows some regional differences based on prices.

    1. IrvineRenter

      I like the idea of CPI adjusted basis for all asset classes. You shouldn’t pay a tax on inflation as you are not benefited by it.

      IMO, Prop 13 did not do much to cause the bubble. There may have been some people who thought to buy in order to lock in a low property tax basis in a rapidly rising price environment, but compared to the greed of making money on appreciation, tax considerations are minor.

      The only problem with linking the tax basis to the GSEs conforming limits is that it is not uniformly applied across the country. IMO, Federal taxes should not recognize regional differences.

      1. Furman Smith

        I too would like to see capital gains taxed at a rate which is based on the length of the holding period. Originally, this is how it was done – by allowing a deduction from the gain equal to a percentage of the gain which rose in proportion to the holding period. Later, in response to the Wall Street and real estate lobbies, the deduction percentage was set at 50% and the holding period was lowered to just one year. In 1986 the deduction/exclusion device was removed and the maximum rate on capital gains was set at 28%. Currently it is 15%, but even this low rate is usually avoided by the fiction of the “like property exchange” or, more drastically, by dying.

        In my opinion this is an unwarranted, and socially harmful, subsidy to investment over production and is in part responsible for our current economic mess. A return to the original scheme of a larger deduction (or a lower rate) in proportion to the length of the holding period would be fairer and would have a number of beneficial side effects, including encouraging investment for the long term. simplier record keeping, etc.

      2. MalibuRenter

        I have seen an interesting discussion that Prop 13 aggravates any bubbles because it makes properties people have lived in for a while less available. It is like saying that homes people have lived in for a while have a higher price. You need a higher price to compensate the current owners for the below market property taxes they are paying.

        We will have a natural experiment on this theory. For homes purchased from about 2002 onward, there was a big property tax savings vs moving from about 2004-2008. In 2009 a vastly larger portion of homes will have property tax value = market value.

  2. mav

    IR, this is a very useful post. Several comments:

    1. The tax benefit goes towards zero if you lose your income. I think few people consider this potential during a recession. The cost of living goes up as your income declines.

    2. Tax benefits that encourage more debt are designed to steal from the poor and give to the rich. Money is funneled from the poor via taxes, asset inflation, and indebtedness.

    1. IrvineRenter

      It will be interesting to see what tax legislation comes out of this Congress. As you noted, “Tax benefits that encourage more debt are designed to steal from the poor and give to the rich.” Our entire economy has become debt dependent, and this recession is a result of it. The best thing we could do long term is to reduce our debt loads. However, the best thing for the economy in the short term is for us to increase our debt loads. The short-term encouragement of debt has stimulated our economy for so long that we created this monster of a problem we are facing now. Will Congress do what is in our long-term best interest? Will they do what is immediate and politically expedient? I would guess the latter.

      1. mav

        I agree, no question, it will be the latter. The scary part is that the debt levels will need to go up in many countries around the world, not just the US. This will create a larger dichotomy between debtor nations and creditor nations. World War could be the end game if things do not work out.

        I guess if you have the capability to go double or nothing at will, eventually you will break even. I think that’s the idea. Just like the loser in vegas, eventually you get cut off.

    2. Perspective

      “…Tax benefits that encourage more debt are designed to steal from the poor and give to the rich…”

      You can’t “steal” a dollar from someone who doesn’t have a dollar. Now, I do agree that most housing tax policy greatly favors wealthier taxpayers.

      The government (i.e. other taxpayers) heavily subsidizes our home. However much it should be discounted (IR’s discounted it 10% above), our marginal rate is 42.3% (33 + 9.3). We were itemizing before we bought because our state income taxes were so ridiculously high. So, by buying, we were able to add property taxes and mortgage interest resulting in an amount of itemized deductions doubling the average household income (the AMT takes some of the “benefit” back).

      My ramble was an attempt to illustrate how much housing tax policy benefits high earners as compared to lower earners. I certainly wouldn’t have agreed to buy a home had tax policy not shifted about $1,500 of the cost from my taxes to my mortgagee.

      In the end, housing tax policy results in a much more reasonable federal tax rate for us – TurboTax calculates it as 15% for 2008 (still 9.3% for CA!!!). So, absent a complete overhaul of the entire tax code simplifying it, I wouldn’t support a targeted housing tax policy revision.

  3. Perspective

    “…Proposition 13 opponents point to the deterioration of California’s public schools since its passage as a big reason it should be repealed…”

    This is a vile argument repeatedly offered by CA dems. CA taxpayers spend more per child, adjusted for inflation, today than we did prior to Prop 13’s passage.

    1. IrvineRenter

      For whatever reason, standardized test scores in California’s schools took a dive after the passage of Prop 13. We may be spending more than we did, but on a per-student basis, we spend less than most other states. This probably contributes to the relative lowering of test scores.

      1. Perspective

        The question I always raise when confronted with the “we need to spend more on education” argument is: What is the limit? How much are you willing to spend on each child’s education per year? $10K? $20K? $100K?

        1. mav

          “The question I always raise when confronted with the “we need to spend more on education” argument is: What is the limit? How much are you willing to spend on each child’s education per year? $10K? $20K? $100K?”

          A good place to start might be the elevated home price for a house in Irvine versus a similar house in a surrounding area with lower quality schools.

          Do the parents and kids create the quality? or is it money? Psychotic parents play a part in the Irvine home prices.

          1. garbler

            I grew up in a well off community with a large tax base. All the $ my high school raised was funneled to a very poor neighboring high school in the same district. That ‘poor’ school had an insane amount of resources & had brand new labs/books/facilities. At my ‘wealthy’ school, everything was old & rundown (I had a math book older than me!).

            Despite the lack of funding at my school, our test scores were consistently (& tremendously) higher than the poorer school’s scores.

            My point is, no matter the school funding…it’s the demographics/nature of the students that affect the test scores & performance of the school.

          2. LakeForestRenter

            Its not the funding. Its the parents and the culture of failure that they raise their children in. I doesn’t matter how much money you throw at a kid, if he doesn’t care, cause his parents don’t care, he’s not gonna learn. A motivated kid with a a 5 dollar library card wins every time.

      2. tonyE

        Nothing to do with Prop 13.

        The State Gov never bothered to fix the distribution of funds.

        Are you aware that OC school districts are considered “rural” and so get less money per capita than “urban” districts like LAUSD?

        Yeah, LAUSD that blew 2BIL on a High School that they can’t use because it’s built on a toxic dump.

        Of course, the State committees in charge of the distribution of school money are controlled by large “urban” districts and are not keen on righting a wrong… After all, this way they can keep their wasteful jobs.

        1. Shannon

          The school opened this academic year. It is the Roybal Learning Center formerly Belmont High School. The Roybal Learning Center cost $400 million to build.

    2. tonyE

      Indeed, Prop 13 is NOT the cause of the deterioration of our schools. It’s the gross mismanagement for our school administrators and State Government that is.

      As it now stands, in California we pay both high income and sales taxes. Our RE taxes are reasonable.

      In other states, they may have higher RE taxes but they don’t have high income/sales taxes.

      For example, WA has no income tax but high RE and sales tax. OR has no (very low?) sales tax but high RE and income taxes.

      What the Dems want to do in California is to have all three taxes high: RE, sales and income. With such a mix you might as well close shop because the only people left here will be the poor, the illegals and Hollywood.


  4. Downside Risk


    Your analysis is always spot on, but I have to take a contrarian view when it comes to Prop 13. Every time this subject comes up it puts the focus on the wrong side of the State’s budget problems.

    The State does not have an income problem, it has a spending problem. The State has profited quite handsomely from this bubble, just like it has from every previous bubble, whether it be housing or tech. What percentage of homes have been held on to since the 70’s, and would reassessing these homes solve the State’s problems?

    It seems to me that the vast majority of homes have traded hands, many repeatedly, thereby negating any effects from Prop 13. There are now new housing developments all over the State that have turned low tax ag land into currently assessed residential lots. Close to home we have the new developments in Ladera Ranch, Talega, Quail Hill and the converted military bases adding to the tax rolls. The current housing bubble was not created because nobody wanted to sell their property to maintain their tax base.

    The other argument I often hear is how “unfair” it is that someone is paying so much more than their neighbor. Again this view is from the wrong side. The buyer knew full well what the taxes were going to be when he signed on the dotted line. The neighbor on the other hand had no say in the transaction, so why should his taxes go up simply because some fool overpaid for the house next door? Are people under the impression that if the neighbor had to pay more that their taxes would go down? When has that ever happened? If you feel the tax man has his hand too deep into your pocket, it won’t make you feel any better to to shove his hand deeper into your neighbor’s pocket.

    Again, the State has a spending problem, not a revenue problem. No matter how much we give them it will never be enough. We passed the lottery in order to supplement the schools, how well has that worked out? The tech boom and then the housing bubble was a huge windfall for the State, what do we have to show for it besides debt? The solution is to elect government officials who are financially responsible and who can think beyond the next election. Well I can dream.

    1. MalibuRenter

      I know LAUSD rather well. Their mismanagement has been reported on extensively over the years. Even some of it’s own board members think it can’t be fixed, it must be broken up.

      Breaking up LAUSD would have some interesting effects on home prices. Around the perimeter of the current district, houses just outside of LAUSD are worth far more than a few blocks away where children go to LA Unified schools. If the District was broken up, most (if not all) of the smaller districts would be better managed. With better local schools, home prices would rise in the new district. However, home prices would probably fall in places like Santa Monica, Calabasas, and Burbank.

    2. tlc8386

      I so agree with your post DR but what came first the over pay of our government employees or the too expensive to live here because of the high prices of homes. What caused the higher than average cost of homes–that is where you will find the true grit of our problems. A million dollar home became the norm for Irvine.

      And we so need a fair property tax for all who live here. Right now it’s only fair for those who bought 10 years ago or longer. And our schools benefit all of CA–not just homeowners with chilren.

      CA needs to cut excess spending and learn to get down to reality with their budget and pensions.

  5. IrvineRenter

    The Growing Foreclosure Crisis

    “One oft-repeated assertion no longer holds true. Those in trouble are not, primarily, lower-income borrowers. The foreclosure crisis has become a wave, afflicting neighborhoods of every stripe — but particularly communities created by the boom itself.”

    Wow! What a surprise.

    1. tlc8386

      this quote hits the head on the nail

      “Now the county is a case study of what can happen when the only industry in town is growth itself.

      “These economies were self-feeding off the housing boom. And when the boom went bust, there was no safety net to fall back on,” said Sean Snaith, an economist at the University of Central Florida’s business school. “

    2. tlc8386

      Three years ago, Byrd bought a home for $525,000, in the city of Riverside, getting a no-money-down mortgage. Back then, she was selling 50 homes a year and earning roughly $350,000 annually. ”

      so why did she not pay off the home when she was making this kind of money?????

  6. oc_analyst


    As usual, I appreciate your thoughtful analysis and the time you take to create these explanatory postings.

    Couple of quick comments on the use of 25% for the tax shield related to mortgage interest. That may be a good general average, but there are also people who can reap the full marginal tax benefit of 34.7% (for 28% filers) or higher (for 33% Federal filers). Certainly, at the lower-end, the overlap factor would come into play.

    When running my own numbers, I’ve been using my true marginal tax rate (28.0% + 9.3% = 34.7%). Since you can deduct state tax from federal tax, you can’t just add the two together (as a previous comment did).

    That said, I find that for reasonably sized mortgages (which produce, say, no more than $25,000 in interest and property taxes), there are fairly realistic conditions where one would save at the full 34.7% rate. This is because (1) the federal standard deduction for a single person is $5,450 for 2008 and CA income tax on $90,000 is about $6k. So anyone single making decent money is going to typically itemize anyway in California. You’ve overrun the value of the standard deduction at just $90,000 of taxable income in California.

    Since the top bracket starts at about $47,000 for singles in CA and the Federal 28% bracket starts at $79,000 for singles, a single person making about $120,000 could deduct quite a bit and earn a true 34.7% savings on each dollar deducted, since the full span of that deduction would keep income to-be-taxed within the 28% Federal bracket.

    Now, that said, an interesting follow-on is that a single person making high income should thus value owning a property more than a lower-income married couple, since they truly would be losing the benefit of the standard deduction. The $120k/year earning single person will actually pay less, net of tax shields, than the $80,000/year earning family — for the exact same property.

    Perhaps this is actually an economic incentive to “live below your means.” If I buy cheap enough, I keep my deduction within my highest bracket, and I derive more value from the same asset than a person of lower income would.

    Perhaps we will also see the bottom of the market first supported by high-income, now-renting singles. Of course, that group should wisely wait until we are at a bottom (or at least until cost-to-own is well below rental parity) so as to not lose any tax savings on the depreciation.

    1. Bitter Renter

      oc_analyst, thank you very much for your post! I didn’t become aware until last year, when I started doing more research on the possibility of buying a home, that state income taxes were deductible on your federal return. I am single and have been making over $90K for a while now, so I guess I’ve been throwing away a lot of money by not itemizing. Ouch. I always heard that itemizing was only for people with mortgages, self-employed people with a lot of deductible expenses, etc. Of course a tax advisor would have told me this, but I thought I was in a situation where I’d only be wasting money to go with one.

      I certainly wish our educational system had a good financial education as a requirement, including detailed info on the tax system at the college freshman level.

  7. Mr. B

    Fiddle with prop 13 at your own peril.

    California’s fiscal irresponsibility has maxed out it’s income tax charge card and it’s sales tax ATM. Doesn’t this kind of imply that in the absence of prop 13 that property taxes would already have been maxed as well?

    People seem amazingly foolish when it comes to taxes, assuming that they’re just some force of nature. I guess with the present one party system in California that may be close to the mark.

    Visualize a frugal spending state government. Visualize low taxes.

  8. DAve

    Man almost this WHOLE POST is about just taking MORE from the producers and giving it to the nonproducers… a shock coming from this blog.
    Mr. B is absolutely correct. Give the state more tax money and they’ll just spend more, not use it to increase productivity in any way.
    LAUSD “gives” me a check every month (I KNOW LAUSD) and let me assure you California’s schools are “failing” primarily as a result of Californians’ wacky insistence on educating another country’s children.
    Thes state doesn’t need more money. It needs to spend less- way less. Currently a huge percentage of American citizens’ money is going to housing, feeding, and educating the citizens of another country who live here almost unobstructed and are a major cause of the vicious unemployment our citizens are currently suffering.
    Where in the Constitution is THAT allowed???
    what part of THAT were all those guys in WW2 fighting and dying for???

    1. Irma

      THANK YOU!

      I grew up in bilingual classrooms and at home I only spoke Spanish.

      At school the classroom did both English and Spanish. We learned everything half as fast as other classes because a single subject was gone over twice. How stupid was that!

      It’s no wonder test scores are low when you only get to cover half the material…and I’m sure it costs taxpayers more too because you need twice as many books and the teachers are probably paid a premium for doing it.

      No other country (besides Canada) would do something foolish like that.

  9. tonyE

    Prop 13 is more than just a financial gain… it impacts our society in other ways.

    By encouraging long term residency, it creates better and more stable neighborhoods.

    Californians already are very mobile. Imagine if Prop 13 wasn’t around, then people would move.

    And, given the amazingly stupid and corrupt Government sector at ALL levels, the incredible number of illegals, the high income and sales taxes, if it weren’t for Prop 13, cities like Irvine would have not been possible because most of us reading this blog would have long ago moved to Nevada, Arizona, Oregon, Washington or even Texas!

    Without Prop 13, California today would be like Haiti. A banana republic without bananas.

  10. tlc8386

    prop 13 is nothing more than an unfair tax given to those that choose never to move–totally crazy because most people change their jobs at least 5 times. What is does is cause other taxes to be raised allowing those that grow old in their homes to stay and contribute to growth, spending, improvement?

    All is see is old neighborhoods falling apart because the older people living in them no longer have the means to up keep their homes. And then the amazing thing they do is will them over to their children in some sort of a way so their kids now pay their cheap tax. Generations are doing this and we are losing tax money when your kids now pay your old tax rate.

    Is that fair to those of us that move here? There is no equality in Prop 13. If everyone paid a fair tax it could be spread out evenly instead of my neighbor paying under 1k for a thirty year old home and the one across the street paying 7k or more depending when he bought it. And mello roos should we demand payment for our schools from just those that live near it? When it affects everyones value? No the tax here is totally unfair.

    It supports and older population with no growth potential with loop holes for scamming. While it punishes the new population with very high taxes.

  11. OCCLee

    Irvine Renter,

    You’re writing is always a delight to read.

    A few thoughts on taxes and Irvine:

    – Irvine schools are short changed as compared to other towns, because Irvine was categorized as “rural” when funding formulae were devised.

    – Prop 13 is a source of the State’s crisis because municipalities, and educational districts have been forced to chronically use debt to finance current expenditures due to the inability to raise taxes. We are coming to the end of that process now.

    – It would be worthwhile to revisit the origins of Prop 13, which was misrepresented as consumer oriented when, as the NYT wrote:
    “The biggest beneficiaries of Prop. 13 were not homeowners but businesses. The law curtailed assessments on all property, not just homes, and there is considerably more commercial property than residential. According to the sociologist Clarence Lo, author of a forthcoming book on tax revolts, California homeowners received just one-third of total tax relief in the first five years under Prop. 13. A whopping 57 percent of benefits went to owners of commercial and industrial property.”
    see: “The Curse of California’s Proposition 13 – New York Times”
    As often happens in public affairs, the real beneficiary (commercial real estate) disguised the benefits of their initiative as a populist victory.

    – I hope the O.C. voices who still believe, as a matter of faith, that tax cuts will solve our problems will now yield the public forum to those of us in the Reality-Based Community.

    1. tonyE

      You guys are falling for the old Dem Switcheroo… The truth is what we pay very HIGH taxes in California: sales and income.

      The legislature should have LONG ago addressed this by funneling taxes from the sales and income to the schools. Instead they kept their spend ways and tried to convince people that it was not their fault and that Prop 13 is the problem.

      Jeez, folks… We pay some of the highest taxes in the country but our State Legislature is incompetent.. and has been for 20 years.

  12. Shannon

    About education and school performance, There is no way a child is going to do well without the love and support of a parent or close adult, especially in poorer communities. Many times in low income areas both parents are working and sometimes they are working 2 or even 3 jobs. Although they may want the best for their children, they do not have the life skills or personal education themselves to make a difference. A few kids make it out but most don’t. The teachers teach the basics to test but it is impossible for the schools to bridge the gap between school and home if only one side is working towards the same goal. Constant educational reinforcement at home as well as building up a child’s self esteem is the best way for a succesful happy student. This is why Irvine schools perform well and Santa Ana schools don’t. You can keep funneling money into poorer schools but unless there is a huge social and personal responsibility adjustment among the families, nothing will change. I see it where I teach in Fountain Valley. The more involved the parent, the happier and more productive the student.

  13. Mark

    The main problem with the hypothesis that tax policy contributed to the housing bubble is that the bubble also happened concurrently in Australia, Spain, Ireland, the Untied Kingdom, and may Asian countries.

    Overall, great discussion of the topic though.

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