Sunday, April 12, 1998

Reader reaction to my column on eliminating the deduction for home mortgage interest was swift, voluminous, and critical.

We do love our deductions, dont we?

One reader wrote, "I don't like to think it, but it appears you've manipulated the story to fit your theory. What you didn't even refer to in the article is that mortgage deductions are but one piece of the puzzle. When you add medical and property taxes to the interest deduction you get a sizeable deduction which has always exceeded the standard deduction for us."

Another wrote, "Your article is rather disingenuous, even misleading, for the following reason: You assume that mortgage interest is the ONLY deduction applied to offset the standard deduction."

Whether they were for or against the idea of eliminating mortgage deductions in favor of a flat (or flatter) tax, many were concerned that the cumulative value of other deductions changed the picture substantially. This was particularly true for readers in high tax states such as California.

Put to a vote, however, the tax simplifiers would carry the day with 57 percent. One reader said it all, "I read your article on "Rethinking mortgage deductions" and couldn't agree more. Not only does the current tax code actually give bigger tax breaks to the wealthy, but it also encourages Americans to remain in debt."

Many people have trouble thinking about this subject because all of us tend to put an excessive value on anything that reduces our taxes. When you take a look at the actual figures, however, the whole notion of deductions starts to look like a brilliant form of psychological torture. The existence of a code rife with possible deductions gives everyone hope of lower taxes and generously distributes a sense of personal failure when our taxes arent reduced to a figure that would make us happy.

Instead of realizing that our taxes are high and rise under both Republicans and Democrats, our friends in Washington have arranged for us to feel that some personal inadequacy prevents us from lowering our tax bills.

Rather than pursue our lonely search for deductions, Id like to suggest another route: lets attack the broad level of taxes at all levels.

We can start by looking at the relationship of income and deductions. In 1995 some 118.2 million tax returns were filed with a total adjusted gross income of $4,189 billion. Only 34 million filed with itemized deductions and those totaled $542.9 billion, or about 13 percent of all income. While that may seem like a large number, itemized deductions actually peaked in 1986 and have declined (in constant dollars) in most years since then. In addition, while most of those who itemized took deductions for mortgage interest, taxes, and charitable deductions, only a comparative handful of taxpayers, some 5.3 million, made the hurdle that entitled them to deduct medical and dental expenses. The figures are shown below.

Item Number of Returns $ Amount
All Tax Returns 118,218,000 $4,189,354 (millions)
Itemizers 34,008,000 542,931
—Medical and Dental 5,351,000 26,964
—State and Local Income 28,640,000 113,996
—Mortgage interest 28,350,000 203,074
—Real estate taxes 30,111,000 67,000
— Charitable contributions 30,541,000 74,992

Source: Internal Revenue Service, www.irs.gov

One clear message: home ownership related deductions account for half the total. As readers suggested, home ownership deductions are the base that makes other deductions possible. It is also what creates the broad constituency for deductions— the nearly 30 percent who itemize.

Now take a look at itemized deductions through another window: the cumulative percentage of deductions by income level as a percent of total taxpayers. The 12.4 percent of all taxpayers who have adjusted incomes over $75,000 a year and itemize account for 60 percent of all itemized deductions. The 20 percent of taxpayers who have incomes over $40,000 and itemize account for 80 percent of all itemized deductions.

The Distribution of Itemized Tax Deductions, 1995

Number of Returns

Dollars (000)

Cumulative from Top Incomes down Cumulative % of deductions Cumulative Taxpayer %
All returns

34,007,717

527,374,034

Under $5,000

219,764

2,159,134

527,374,034

100.00%

28.77%

$5,000 under $10,000

519,196

5,089,708

525,214,900

99.59%

28.58%

$10,000 under $15,000

930,474

9,210,346

520,125,192

98.63%

28.14%

$15,000 under $20,000

1,215,854

12,212,870

510,914,846

96.88%

27.35%

$20,000 under $25,000

1,536,831

14,768,175

498,701,976

94.56%

26.33%

$25,000 under $30,000

1,789,527

17,745,680

483,933,801

91.76%

25.03%

$30,000 under $35,000

2,034,649

20,725,551

466,188,121

88.40%

23.51%

$35,000 under $40,000

2,162,732

22,818,414

445,462,570

84.47%

21.79%

$40,000 under $45,000

2,323,902

25,899,602

422,644,156

80.14%

19.96%

$45,000 under $50,000

2,133,347

25,410,736

396,744,554

75.23%

18.00%

$50,000 under $55,000

2,291,162

27,638,774

371,333,818

70.41%

16.19%

$55,000 under $60,000

2,188,374

27,250,206

343,695,044

65.17%

14.25%

$60,000 under $75,000

5,038,706

69,840,180

316,444,838

60.00%

12.40%

$75,000 under $100,000

4,651,248

78,996,306

246,604,658

46.76%

8.14%

$100,000 under $200,000

3,781,208

89,314,615

167,608,352

31.78%

4.21%

$200,000 under $500,000

946,203

40,385,814

78,293,737

14.85%

1.01%

$500,000 under $1,000,000

164,177

13,678,409

37,907,923

7.19%

0.21%

$1,000,000 or more

80,362

24,229,514

24,229,514

4.59%

0.07%

Some people think that it is terrible that people with incomes over, say, $100,000 a year should get large benefits from deductions. I say thats nonsense. If you have graduated tax rates and deductions, it is algebraically inevitable that people taxed at higher rates will enjoy more tax savings from a given deduction.

But deductions are a distraction. They are a side-show that keeps the voting public balkanized into a feuding income groups, each hoping to poach a tax break from the other. The real issue is the total tax burden on Americans at all income levels and the fact that years of "tax reform" and political grandstanding have taken us, collectively, to the highest level of taxation in post war history.