The tax treatment of housing: its effects on bounded and unbounded communities

This paper examines the potential impact of the federal tax treatment of housing, which provides tax advantages that increase with income and house value, on the pattern of development in U.S. metropolitan areas. The authors argue that the tax treatment of housing is likely to have impacts on older, developed communities with fixed boundaries, such as central cities, that differ from those on suburban areas, where there is an elastic supply of land. Using simple analytic models, the authors show that the tax treatment of housing not only increases the incentives for lower density development, but it also provides incentives for increased sorting of high- and low-income households into separate communities. Given the very large magnitude of the annual subsidies to housing ($65 billion) and the fact that these subsidies accrue to a relatively small share of home owners, the authors believe that the impact of these subsidies on the pattern of metropolitan development is potentially very important.