Congress - Fix the Housing Market You Broke

In 1996, having just taken control of both houses of Congress for the first time in 40 years, Republicans pushed through a big tax cut bill.  One of the provisions buried in the bill that didn't get a lot of attention was a big change in how a personal residence is taxed.

Prior to 1996 if you bought a house and then sold it for a gain, you had to pay Capital Gains taxes.  However, if the home was your personal residence and you used the sale proceeds to buy a new personal residence you had no tax obligation.  For generations regular folk had bought a house, as the family grew or their needs changed they were free to upgrade to a bigger house without paying Capital Gains taxes when they rolled the money over into a better house.  Once they were over 55 homeowners had a one time opportunity to downsize to a smaller home, and they could keep up to hundreds of thousands of dollars of what they got in the sale that exceeded the cost of their new home to fund their retirement.  It was a big part of how regular people funded their retirement.

Speculators, on the other hand, prior to 1996, had to pay Capital Gains taxes when they bought houses and rolled them over to make a profit, which discouraged speculation on housing.

Republicans dumped this system that had worked for generations.  Their new system allowed you to sell your house at any point in life and $250,000 (or more) in gain was exempt from taxes.  

So what does history reveal about the wisdom of this change? 

Speculators almost immediately spotted the opportunity.   The price of the average house began rising far faster than average income because speculators were buying houses to flip to take advantage of this huge tax benefit.  Within a couple years you could hardly change a channel on the television without finding another program about how to get rich flipping houses.  People wanting to buy a house to live in had to take bigger and bigger loans to afford a house, and the frenzy in the housing market was one of the most direct causes for the financial collapse that began in 2006.

The financial collapse brought housing prices down considerably (although prices were still significantly higher than the long term average of price to income).   A lot of the house flippers got clobbered and lost places to foreclosure along with a lot of regular folks just trying to afford a house.  But the landlords sitting on the sidelines saw a great opportunity and began snatching up houses to rent and driving the prices back up again.  

Now, 20 years later, people who want to buy a house pay a much bigger chunk of their income, and have far less left over, than their parents or grandparents, and the only reason they can afford to buy at all is because interest rates are the lowest they have been in modern times.  Yet, despite historically low interest rates the percentage of people who own a home is well below the percentage of our parents or grandparents who owned a home.

In some markets some of the people who own a house are essentially trapped in their house. Prices have jumped so much if they want to sell to move they will have a Capital gains tax obligation that may preclude them from affording to buy another house in their neighborhood.  So folks hold on to houses way to big for them until they die, reducing supply and further driving up prices.

The worst may be yet to come.  When interest rates ever start going up housing prices will collapse.   The price of a house a family can afford is a lot less when the interest is 5% or 6% than it is at 3% or 4%.  So we will once again have big chunks of folks underwater on their houses.

It has also been apparent for years pension funds across the country are vastly underfunded.  

The retirement future for many folks in the US does not look rosy.

The economic health of our country is at risk and regular folks are getting screwed because in 1996 Republicans wanted to close a budget deficit at the expense of regular folk instead of taxing people with real wealth.