Wednesday, July 28, 2010

Don't Give the Tax Credit Too Much Credit

Copyright, The New York Times Company

The Home Buyer Tax Credit contained in the American Recovery and Reinvestment Act of 2009 has been given much credit for buoying the housing market. But simple arithmetic shows that the credit’s effect has been minimal.

The law passed in February 2009 included a temporary 10 percent capped tax credit for qualified first-time home buyers. Later the program was expanded to include repeat home buyers, and recently home buyers were given until September 2010 to complete their qualified transaction.

Last week the Federal Housing Finance Agency released its housing price index for May 2010, and yesterday the Standard & Poor’s/Case-Shiller index was released. Both show that housing prices have not fallen significantly, if at all, from what they were a year before. News articles have asserted that housing prices stopped falling because of the tax credit and have planted seeds of worry that a housing-market collapse could continue when the credit expires.

The Internal Revenue Service reports that only $19 billion of tax credits have been claimed so far. The average credit was $6,000 to $7,000, small compared with the average sales price for a home of more than $200,000. More importantly, most home sales transactions involved no tax credit because the buyer was unqualified, or perhaps unaware. If these transactions were at all affected by the credit, it was only because they occurred in a wider market in which some transactions did involve credits.

But the wider market is quite a bit wider: the stock of owner-occupied houses in the United States is worth about $14 trillion, with an additional $3 trillion of rental housing. From this perspective, the $19 billion in first-time home buyer tax credits amounts to about one-tenth of 1 percent.

For the same reason, the possible expiration of credit is not an important event for the housing market. The credit was not designed to last more than year or two, whereas houses last decades or even centuries. Most of the value of a house accrues in the decades after the first year or two of its existence.

Certainly some housing construction projects and housing purchase deals were accelerated to conclude before the credit expired. But accelerating a deal is far different than creating a deal out of thin air. That’s why I expect little, if any, housing price reduction after the credit expires.

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