Towards a Targeted Homeownership Tax Credit

Although the federal government provides tax incentives for homeownership, current tax provisions provide few incentives for lower-income families to buy a home and provide limited targeting of homeownership incentives. While the overall homeownership rate in the United States is at an all-time high, the gap between the ownership rates of lower-income and higher-income households remains wide. In addition, homeownership rates in low-income and minority neighborhoods remain well below those in other neighborhoods. This has prompted a series of new proposals for a targeted low-income homeownership tax credit. This paper summarizes how the current federal tax code fosters homeownership, demonstrates that current homeownership tax incentives mostly benefit those with higher incomes, and proposes a set of criteria for reviewing homeownership tax credit proposals. Based on this review, the paper also proposes a possible approach that meets these criteria. The primary barrier to low-income homeownership is defined as an interaction between insufficient incomes to meet the monthly obligations of homeownership and a lack of downpayment and closing costs. While several strategies are identified that may address these twin barriers to homeowning, one feasible strategy is to offer a tax credit to investors who fund low-interest, second mortgages for low-income, first-time homebuyers. Such a credit would simultaneously reduce low-income homebuyers? ongoing monthly payments and the amount of savings they need to cover downpayment and closing costs. Since federal policy also recognizes the special problems of underserved areas, this strategy also calls for spatial targeting of the credit. This proposal also recommends allowing states and local governments to combine the tax credit with other federal grants such as CDBG and HOME to reach those with the lowest incomes, stimulating the redevelopment of underserved areas. Based on a set of assumptions about how the market might price such a tax credit, $1 billion in tax credits offered to investors in second mortgages could assist as many as 66,000 low-income homebuyers annually.