Is a Mortgage Good Debt?

A popular good debt topic is a mortgage, with a focus on the tax deduction associated with mortgage interest. There are many good reasons to buy a house, but being able to deduct mortgage interest shouldn’t be high on the list. We have to remember that mortgage interest for tax purposes is a deduction not a subtraction, and that it’s determined as a percentage based on our income tax bracket. The tax brackets for 2015 are shown below for reference.

2015TaxBrackets

For example, a married couple with $82,000 in taxable income would fall within the 25% tax bracket. If they own a home with a mortgage, for every $1.00 that they pay in mortgage interest they would receive a $0.25 tax benefit. The other $0.75 of the dollar is gone. Here’s how this works. First we’ll calculate their income tax without the mortgage interest deduction.

Taxable income x Tax bracket = Income tax

$82,000 x 0.25 = $20,500

Now we’ll determine their income tax with the mortgage interest deduction. If we assume that their mortgage interest for the year is $5,800, this amount is subtracted from their taxable income (not their taxes). Then their income tax amount is calculated using the adjusted taxable income as shown below.

Taxable income – Mortgage interest paid = Adjusted taxable income

$82,000 – $5,800 = $76,200

Taxable income x Tax bracket = Income tax

$76,200 x 0.25 = $19,050

The difference between the income tax amount without the deduction ($20,500) and the amount after the deduction ($19,050) is $1,450, which is 25% of the mortgage interest paid.

Mortgage Interest paid x 25% = tax savings from mortgage interest

$5,800 x 0.25 = $1,450

Even though the couple in the example paid $5,800 in mortgage interest, the tax benefit is just $1,450. The deduction for property taxes is calculated the same way and has the same affect. There is a tax benefit, but not to the extent that many people think. And even though we get some of it back, wouldn’t it be great to not pay it in the first place. With this in mind, I wouldn’t call a mortgage (or any other debt) good debt. To me, the only good debt is no debt.

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