- The Washington Times - Thursday, December 15, 2005

Q:A couple of weeks ago, you responded to a reader who felt she was locked out

of the real estate market because of rising home values.

Your response was thorough and informative. However, wouldn’t it have been wise to point out the tax deduction that a homeowner receives? There is no significant tax write-off for a renter, but an owner can write off the interest and real estate taxes. After calculating the tax savings, she might realize that purchasing her home is more affordable than she thinks.

A: Thank you for pointing out the very important benefit of the mortgage interest and real estate tax deduction. Indeed, estimating the tax savings is essential when determining the affordability of a particular home purchase.

For the folks who missed the column, allow me to recap. A single mother renting an apartment in the District is facing a condominium conversion. She realized that if she were to purchase her unit, her mortgage payment would be higher than her rent.

Her situation is a good illustration of the challenges facing folks living in areas where real estate prices have gone through the roof. Although many cities and municipalities have programs to help lower-income folks afford a home, there aren’t many programs that help people who would be considered middle class.

When home values rise at a much faster rate than wages and salaries, middle-class people are pushed out, resulting in a community consisting of just wealthy homeowners and poorer renters.

I wasn’t able to offer a solution for this woman. The rising price of homes is a double-edged sword: Homeowners get richer, but renters get locked out of the market or are forced to move to the outskirts of town, where prices are more affordable. It contributes to urban sprawl.

Let’s run some numbers on a real-life example to see how much the tax deduction actually helps affordability.

I poked around the Internet and saw a two-bedroom condominium in Alexandria, near Metro, on the market for $280,000. The condo fee is $249 per month, and the taxes are $180 per month.

Let’s assume our reader purchases this unit and was able to put down 5 percent in cash. Without going into the details, I ran the numbers using a 30-year fixed-rate mortgage and came up with a total monthly payment of about $2,050, including the condo fee and taxes.

Cash required, including the down payment and closing costs, will be in the range of $20,000.

I then searched the Internet for units available for rent in the same condo complex and discovered that a two-bedroom unit similar to the one for sale is renting for about $1,250.

So our reader can pay $1,250 per month and continue to rent, or she can cough up $20,000 and pay $2,050 per month — $800 more per month — to own a similar property.

Now let’s take a rough look at the tax advantage. I’m no tax expert, and it’s very important to consult with a qualified tax adviser before making any decisions, but let me give you some rough numbers.

Again, without going into the details, my calculations tell me that after the first 12 months, our reader would be able to deduct about $12,500 in taxes and interest from her taxable income.

Assuming a 28 percent tax bracket, she would save $5,180 in federal taxes. Divide this number by 12 months, and she saves $431 per month, which can offset some of the more expensive $2,050 mortgage payment.

Unfortunately, it’s not that simple. Folks who rent often have very little opportunity to claim deductions on their tax return, making it pointless to itemize deductions. Those who choose not to itemize receive the “standard deduction.” A single mother with two children might qualify for a standard deduction of perhaps $7,000.

Using the same tax bracket, this would save $1,960, or $163 per month.

It gets even more complicated. Folks who itemize are not allowed to take the standard deduction, but they are able to deduct more than just mortgage interest and real estate taxes. In most cases, they can deduct state income taxes and personal property taxes.

Here’s the bottom line: You are correct that the deduction allowed through homeownership needs to be considered when buying a home.

In most cases, there is a significant advantage when comparing the savings under the standard deduction. At the same time, however, skyrocketing home values have locked a lot of folks out of the market, regardless of the tax benefits.

I am in no way suggesting that renting is a better option than buying. Real estate has proved to be a good investment over time. Nevertheless, it’s important that anyone who buys real estate can afford the monthly obligation.

Henry Savage is president of PMC Mortgage in Alexandria. Contact him by e-mail (henrysavage@pmcmortgage.com).

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