Taxes and the User Cost of Capital for Owner‐Occupied Housing

Owner‐occupied housing is said to be favored in the tax code because the return on owner's equity is not taxed and mortgage interest and property taxes can be deducted in the computation of one's income tax base. The special tax treatment reduces the user cost of capital for owner‐occupied housing. The issue treated in this paper is the measurement of the tax rate to be employed in the user cost calculations. It is argued that different tax rates are appropriate for the tenure choice and quantity‐demanded decisions, and that these values depend on the detailed tax position of the household and the method of finance. Average 1977 tax rates for household in different income ranges are calculated using the NBER TAXSIM microeconomic data file on individual tax returns.