Shemia Fagan Says, Based on New Audit, Mortgage Interest Deduction Must Be Reformed

Secretary of State Shemia Fagan today released an audit of one of the sacred cows of personal finance, the home mortgage interest deduction.

The audit found that the deduction disproportionately benefits white Oregonians in urban counties and costs the state more half a billion dollars a year without providing a clear benefit.

Ask any financial planner why you should buy a home instead of renting one, and odds are they’ll talk about deducting the interest payments from your income, lowering your tax bill.

Oregon homeowners have been able to deduct mortgage interest from their state taxes since 1923, and from their federal taxes since 1913. Realtors, mortgage brokers, and their lobbyists have fought hard to preserve both the state and federal deduction ever since, saying it encourages home ownership.

In Oregon, those groups have defeated bills, as recently as 2021, that in some cases would eliminate the deduction and in others would take a more gradual approach, targeting mortgage interest for second homes.

The broad outline of findings in the new audit reflects the disparities that lawmakers have highlighted in previous attempts to eliminate or reduce the deduction.

In the first-ever state audit of the mortgage interest deduction, however, Fagan put a sharper point on that analysis, portraying it as a wasteful sham that benefits wealthy, white homeowners and deprives the state of about $550 million a year in lost revenue.

Worst of all, auditors found, the deduction does little or nothing to encourage home ownership among the people who need homes most: people of color. High prices, high closing costs, and limited access to credit keeps them out of the housing market, and the promise of a tax break does nothing to help them clear any of those hurdles, Fagan said in the 34-page report.

Wealthy Oregonians, Fagan said don’t need a tax deduction to help them buy a home, but they are the ones reaping the benefit of a long-standing, misguided policy. (The deduction covers mortgages of up to $750,000.)

And although Oregonians take the perk for granted, the audit notes it’s only available in 30 states, which suggests the real estate industries in the 20 states that don’t allow the deduction function fine without it.

“The affordable housing crisis is squeezing families across Oregon while the state’s largest spending on housing primarily flows to wealthy homeowners in the metro area,” Fagan said in a statement. “That is indefensible. Every dollar spent keeping seniors and working families in their homes or helping renters stay housed has been scrutinized and debated by lawmakers.

“Meanwhile, billions of dollars just walk out the backdoor with no questions asked. I can’t think of a worse example of waste and systemic inequality than that.”

Wealthy people are far more likely to benefit from the mortgage deduction because they are more likely to itemize their deductions, own more expensive homes, and have higher marginal tax rates, the audit found.

The mortgage deduction flowed more benefit to 18,000 Oregonians with incomes in the top 1% than it did for the 727,000 taxpayers in the bottom 40%.

And it’s mostly an urban thing. In 2018, taxpayers in Clackamas County got an average benefit of $331, while those in Wheeler County got just $71.

In budget parlance, a tax deduction is considered a “tax expenditure” because it is often enacted to encourage a certain behavior, in this case homeownership. Right now, there are 377 such expenditures in Oregon and federal law. Together, in the 2019-21 biennium, they cost the state $24.5 billion in revenue, Fagan said. The mortgage interest deduction is the largest housing-related tax expenditure in Oregon, and the seventh-largest tax expenditure overall.

What’s to be done, short of getting rid of the exemption? Because it’s enshrined in Oregon law, any change must be made by the Legislature. Fagan suggests starting by identifying a clear purpose for the mortgage deduction and assigning a state agency to regularly evaluate it to make sure it meets that purpose. It’s a certainty the next time lawmakers take a whack at the deduction they will use today’s audit as ammunition.

If history is any guide, the fight over the mortgage interest deduction will be fierce.