Home Buyer Tax Credit
Frequently Asked Questions on a Proposed Home Buyer's Tax Credit
Lawmakers are under political pressure to “do something” to fix the current foreclosure crisis, but they should act carefully and reject proposals that do more harm than good, including pending legislation that would create a new home buyer tax credit.
A home buyer tax credit will not help people stay in their houses and it will not fix the credit crisis. The only issue a home buyer tax credit addresses is the oversupply of single-family houses, which is something best left to the marketplace—not taxpayers—to correct. Lawmakers should instead focus their efforts on restructuring mortgages, an action that actually can help families stay in their houses.
Q: How does a homebuyer tax credit help homeowners who are in danger of losing their houses?
A: It doesn’t. A homebuyer tax credit does nothing to help a homeowner who is having trouble affording the mortgage payments on a house that they currently own. Such a proposal would not affect a troubled homeowner’s mortgage balance, interest rate, or monthly payments and would provide no incentives for either the homeowner or the mortgage lender.
Q: Didn't Congress do this before? Did it work?
A: A home buyer tax credit was enacted in the mid-1970s when the economy was suffering from a recession and inflation at the same time. That credit was limited to seven months and provided buyers a $2,000 tax credit. No such tax credit was enacted in the recession of the early 1980s, which was a much worse downturn for the industry.
There was also no home buyer tax credit for the recession of the early 1990s, which was as bad as the mid-1970s. The “precedent” for this tax credit is shaky at best, and recent history confirms that the housing industry will recover with or without the help of Congress or the resulting expense to the taxpayer. Such a housing recovery will not happen overnight, of course, and there is no indication that a taxpayer-financed home buyer tax credit will have any impact on the length of time such a recovery will take
Q: Won’t this bill “get us to the bottom” faster?
A: Getting to the bottom isn’t the problem. In fact, the National Association of Home Builders (NAHB) forecasts that new construction will hit bottom in the second and third quarters of this year and start to recover by year-end. How can we possibly get to the bottom any faster?
More importantly, the real goal is not to get to the bottom; it is to return to a level of economic activity that is closer to normal. There is no quick way to do this. The recent boom in single-family house and condo sales was fueled in large part by investor purchases and the misguided belief that house prices would never fall.
The investor-owned share of housing rose to record levels, lured by quick and easy profits through “flipping.” That “irrational exuberance” is now over and needs no Congressional action to fix. The other factor driving the boom was the combination of unusually low mortgage rates and lax underwriting standards, which prematurely brought many people into the market who otherwise would waited until they were better prepared financially to buy. This simply “front-loaded” demand, trading lower demand in the future for higher demand at the time. We are currently paying the inevitable price for those unsustainable trends.
Q: Won’t this proposal increase house sales?
A: There may well be some increase, but it is likely to be small. Even if it does produce some small increase, however, it is an inefficient use of taxpayer dollars. It does not target those most in need (i.e., those in danger of losing their houses), and it provides a subsidy to many buyers who probably would have purchased a house without a tax credit. In other words, the “bang for the buck” is small and the danger of creating taxpayer-funded windfalls for buyers is great.
Furthermore, if the only thing needed to spur sales is a discount, sellers of all sorts—firms with inventory of new houses, lenders holding foreclosed houses, and others—can do this today and can do it without taxpayer dollars. In other words, the so-called home buyer tax credit is really a credit to sellers so they don’t have to lower their prices. The real impact of this proposal would be not to increase house sales, but to shift losses from other industries onto the taxpayers.
Q: Won’t this proposal help non-homeowners to join the ranks of homeowners?
A: The best-case scenario is that this proposal will cause taxpayers to subsidize those who would choose to buy a house with or without this tax incentive. More likely, this proposal will lure financially ill-equipped Americans into buying into a real estate market that many economists believe still has further to decline. A home buyer’s tax credit could have the perverse affect of encouraging even more Americans to join the ranks of those who own houses on which they owe more than the current market value—and these Americans will end up in this situation with the direct encouragement and subsidization of the U.S. government.
Q: Isn’t the housing industry a leading sector of the economy? Doesn’t that mean that in order for the economy to recover, the housing industry must recover first?
A: It is true that housing is a leading sector of the economy. But that just means that the upswings and downturns in the housing industry occur a little before those of the economy as a whole. It does not mean that the upswings and downturns in housing cause the ups and downs of the whole economy.
In 2001, the economy slipped into recession even while the single-family and condo markets were strong. Similarly, the economy doesn’t have to wait for the single-family and condo markets to recover in order to regain its footing. If Congress wants to stimulate the economy, there are actions it can take. But targeting such stimulus to the home building industry will waste taxpayer dollars without accomplishing much.
Q: Shouldn’t we “do something” about the fact that there is an oversupply of houses on the market?
A: Oversupply situations happen in every industry. The housing industry will recover with or without Congressional action as it has in past oversupply situations. Why should taxpayers help out an industry that recognized a downturn was coming and still kept overproducing?
As far back as December 2005, NAHB Chief Economist David Seiders said that builders were overbuilding the market. In a 2006 interview, Seiders predicted that “overbuilding, prices that have outpaced incomes, and rising inventories of unsold new and resale homes” would likely lead to house price declines. In 2007, Seiders reported that builders have overbuilt 400,000 units nationwide over a period of years.
The solution to overbuilding is to lower sales prices, which will not only bring buyers back into the market, but will also restore affordability to the housing sector and put it on a much stronger footing going forward.
Furthermore, why should taxpayers help firms whose own executives refuse to chip in? As the Wall Street Journal reported in its March 7, 2008, edition, the boards of directors of two of the nation’s largest home builders, KB Home and Toll Brothers, “are finding ways to grant sizable bonuses to their chief executives, even as the home builders’ share prices and profits languish.” (p. 10). At some of the nation’s largest lenders, including Countrywide, Merrill Lynch, Citigroup, and Washington Mutual (see Wall Street Journal, March 7, 2008, ppg. 10-11), the story is similar.
Industries can, and should, adjust to changing market conditions without the aid of a federal subsidy. Multifamily construction plunged 77 percent (from peak to trough) after the 1986 Tax Reform Act removed tax incentives for apartment investment. That was a far greater decline than the single-family market has ever suffered. The government did nothing to stimulate the apartment sector, and when the industry came back, it came back stronger, dominated by professionally managed firms that understand the cyclical nature of the business and are prepared to weather the inevitable downturns.
Finally, the stimulus package already enacted by Congress should help increase house sales. The National Association of Realtors estimates that the increased loan limits for Fannie Mae and Freddie Mac included in that bill could generate over 300,000 additional sales, reduce housing inventory and strengthen house prices by two to three percent.
Q: What should we do instead?
A: A sizeable number of these foreclosures are unavoidable because millions of people were pushed into unsustainable homeownership. Congress should focus its efforts on those households who can reasonably afford to stay in their houses. Lawmakers should direct their efforts to measures that get these loans restructured. Beyond that, if Congress wants to shore up the economy, it should look at proven economic stimulus policies, such as investment incentives for business, investing in our national infrastructure and extending unemployment benefits.
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