Mark Zandi: Fannie and Freddie don’t deserve blame for bubble

[customerserviceguy]

4. May I add something else to blame for the bubble?

For starters, housing was strongly favored over all other 'investments' a person could make. The deductability of home mortgage interest and real property taxes was a direct subsidy to the real estate market. But the thing that really pumped the hot air into the balloon was the complete removal of capital gains taxes from the sale of any house which generated less than $250K PROFIT for a single person, and $500K for a married couple, EVERY TWO YEARS.

It happened in the mid-90's, during the Clinton Administration. I had quit my tax practice some years earlier (I used to be enrolled to practice before the Internal Revenue Service), but I recognized that this was a tax break like no other ever offered before. Before that, you always had to "buy up" to get a deferral of capital gains taxes, and you could get a forgiveness of that only if you held the house until you were 55 or older, and it was a one-shot deal. I realized that a married couple (if they could find the right houses to invest in) would be able to shield $2.5 million dollars from taxes in a decade.

That way overheated the bubble, and it had to pop, and pop hard. Usually, a housing recovery is evident a year or two after the bottom of a recession, but we're still in free-fall, so great did that bubble rise. I really don't see the bottom of it, but I know it will not happen until the backlog of foreclosures is worked through.