PRINCETON, NJ — Americans make it clear they want to keep common federal income tax deductions, regardless of whether the proposed elimination of those deductions is framed as part of a plan to lower the overall income tax rate or as a way to reduce the federal budget deficit. No more than one in three Americans favor eliminating any of the deductions in either scenario.
The results are based on a USA Today/Gallup poll conducted April 13. Half of respondents were asked about eliminating the deductions as part of a plan to lower the overall tax rate and the other half were asked about eliminating the same deductions to reduce the federal budget deficit. The questions evoke similar levels of opposition to eliminating the deductions.
I was surprised since this Gallup poll is based on adults rather than registered voters.
One would expect more poor people to be included who would look at getting rid of deductions as a way to get more money —-to them.
According to the same poll, 55% of those polled do not take a mortgage deduction.
Are they renters or, like me, living in a paid off home?
Maybe landlords are warning renters that rents will go up if taxes go up.
Maybe there are a whole lot of folks thinking about buying and planning on getting that deduction.
This was a phone poll, so I’d expect poor people might be underrepresented. These days, a lot of poor people use cell phones (pre-paid phones or monthly plans) instead of landlines.
The survey did ask the usual demographic questions (age, income, etc) but apparently it did not occur to them to ask people whether they were a homeowner or renter.
While I would expect renters to have a higher level of support (for ending homeowner deductions) than homeowners, I think the real divide would be between renters who expect to own a home in future (or have previously owned a home) and renters who expect they will never own a home.
One question I would ask of people who support homeowner deductions: Are homeowner deductions fair to renters (who don’t get the deductions and therefore pay higher effective tax rates than homeowners of equal income)?
@Terry Pratt:
In CA we used to have (may still have) a renters tax credit to make up for any extra rent a landlord collects to cover his taxes.
Years ago one landlord told me that he just kept raising the rent the maximum allowed annually to beat that system.
I was going to post on a poll question that should have been asked, but then I realized that people, no matter who they are, or in what economic class they belong, would only see the negatives as applied to them, and not the positives as applied to everyone. And most of that is due to the class-warfare mentality ingrained within people by the pols in DC.
We, the people, do not have real influence in DC anymore. We have allowed it to be taken away from us by the pols, who, in order to get their legislation passed, pit groups of people against one another, by negatively suggesting that another group is getting better benefits, or that another group is wishing to take away a groups benefits. Notice I didn’t say ‘rights’.
How far have we fallen, as a country, when people identify themselves with groups before identifying themselves as individuals, and where ‘benefits’, those alms given to them by a ‘benevolent’ government, is more important than in protecting individual rights.
The tax system in this country is the perfect example of this. Imagine, though, an income tax system based on no deductions, with lower tax rates across the board. Why wouldn’t this happen? Several reasons, the first of them being an outrage of those who don’t pay in any taxes in the current system, of those who make high, to very high incomes, getting a ‘bigger’ break on taxes than they do. Another reason is that people would be too blinded by the fact that they lose a ‘benefit’ of a certain deduction, regardless of having their overall tax rate drop, and paying virtually the same taxes as they did before.
The above is why we will not ever get a satisfactory reform to our tax system. And just as Greg has stated here, about Ryan simply wanting to give tax breaks to the “rich”, that rhetoric would be prevalent amongst the liberals who play this class warfare game, even when the truth is much different, and would result in the “rich” actually paying more of the total tax revenue than what they do now.
I don’t know any way around this class warfare game, as it’s hard to argue with someone who speaks in feelings, rather than rational thought, who identifies themselves within groups, rather than as a sovereign individual, who is more concerned about what they ‘get’ from the government, than in protecting an individual’s rights.
I take my large mortgage deduction which covers the majority of my tax liability.Would I wish to do away with it. Hell no. Is it fair? Hell no again.
Abolish the IRS and tax on consumption
@rich wheeler:
The real question you should answer is; Would you be for giving up all deductions and credits in our current tax system, as long as the tax rates were reduced appropriately as well, across the board?
Now, before you answer, realize that with that, the stated tax rates would be reduced, but the ‘effective’ tax rate wouldn’t be, and you would still end up paying essentially the same as you do now. What would change is the elimination of ‘loopholes’, that some individuals take to reduce their tax rates down to virtually nothing, comparatively, and the ‘payments’ to those who end up not just paying nothing in taxes, but receiving money from the government as well.
BTW, I, too, am in favor of a consumption tax, such as the Fair Tax, and a complete abolition of income taxes, not only for individuals, but corporations as well.
J.G. As long as the IRS exists I believe the wealthiest among us should pay at a higher rate with mortgage deductions and other incentives to home ownership remaining in place.Our society benefits from increased home ownership. Corporate taxes remain in place with incentives to those who treat their workers as well as their shareholders (can you believe the booming stock market?)
Best case remains abolition of personal income tax.No flat tax.Tax on consumption
@rich wheeler:
I don’t know why you added ‘flat tax’ in there, but just to make it clear between us, the Fair Tax is not a ‘flat tax’, but is a consumption tax. The beauty of it is that it completely abolishes not only personal income taxes, but also corporate taxes.
J.G. Correction noted. Obviously I’m against flat tax. More study of fair tax required. Thanks
@rich wheeler:
No problem, Rich. I read up on some of the latest about it, and I am beginning to like the idea more and more, and I would expect that you would as well, particularly as you state you are for a consumption tax.
Wow, where do I start? I guess I’ll address the comments above one by one:
Nan G:
An interesting trend over the past 25 years – and one which apparently nobody else has written about – is that as a group, renters have become considerably poorer relative to homeowners.
For example, in the 1980s, median income for renters was approx 60 percent of the median for homeowners. Today, that figure is around 40 percent.
There just aren’t many places in this country where a renter with 40 percent of the median homeowner income is going to be able to buy a home, so I consider most renters today to be ‘involuntary’ renters.
Landlords would not be affected by any change in homeowner deductions because landlords get to ‘expense’ all their costs (mortgage interest, taxes, etc) for tax purposes. Landlords also get to expense ‘depreciation’ on their rental properties, which reduces their current taxes to very low levels. (Depreciation effectively defers taxes for landlords, as the deferred taxes are due down the road when they sell, although they can continue to defer taxes on their first property if they buy another rental property, which most do.)
Some landlords do tell their tenants they will have to raise rents if political/tax issues don’t go their way, but most don’t want to open a can of worms – they figure the more ignorant their tenants are, the better.
Most states do not have a renters’ tax credit; a few do include renters in their ‘circuit breaker’ tax credits, which were originally created to protect homeowners from burdensome property taxes. Because Proposition 13 screwed renters so badly – Prop 13 protected homeowners from being taxed out of their homes but gave NO similar protection to renters (regardless of how long they stayed in their home) – renters lobbied for and got some misc protections later.
Your example of the landlord who keeps raising rent is one reason I refuse to live in California. If Prop 13 wasn’t class warfare, what do you call it? Why is it perfectly okay to tax renters out of their homes but a political no-no to tax homeowners out of their homes? Especially when renter income is 40 percent of what homeowners have. Homeowners need and deserve protection more than renters?
johngalt said:
“How far have we fallen, as a country, when people identify themselves with groups before identifying themselves as individuals, and where ‘benefits’, those alms given to them by a ‘benevolent’ government, is more important than in protecting individual rights.”
As an involuntary renter, I figure government has already taken away my individual rights. Where is my right to buy property I can afford? People who can’t afford government-imposed minimum lot sizes do not have property rights. Where are the property rights advocates when I need them? Too busy demanding government protect THEM from poor people like me who would like to buy property.
I support a low flat tax rate without deductions and similar gimmicks. But I’d like to suggest that where are generally some misconceptions regarding all those Americans not paying income taxes.
A childless adult working full time at minimum wage actually pays income taxes and does not get money back (e.g. no EITC, no food stamps, no nothing).
The people filing tax returns and not paying income taxes are NOT childless full time burger flippers. Bush’s expanded child tax credits added millions of Americans to the list of people who pay no income tax. (Although I suspect that most of the non-payers are either retirees who are required to file although they don’t owe taxes – e.g. many receiving Social Security – or teens and other part time workers.)
Ironically, it was the family values crowd that took millions of people off the tax rolls, not the welfare statists.
This is why liberals are wrong when they complain about tax cuts for the wealthy – they were actually tax cuts for PARENTS, which is why the rich are now paying a higher share of the income tax bill – so much of the tax cuts went to parents rather than to the rich.
rich wheeler said:
“I take my large mortgage deduction which covers the majority of my tax liability.Would I wish to do away with it. Hell no. Is it fair? Hell no again.
Abolish the IRS and tax on consumption ”
A consumption tax, as currently proposed, would screw involuntary renters, because for tax purposes, some forms of consumption are more equal than others.
Specifically, at least some part of a homeowner’s mortgage payment – and usually most of the payment – would be exempt from a consumption tax – while ALL of the rent paid by a renter (including property taxes embedded in rent) would be taxed. Homeowners without a mortgage would pay no tax on their housing consumption beyond out of pocket materials and maintenance costs.
Therefore, whenever a homeowner and a renter have equal housing consumption, the renter will pay more tax than the homeowner.
johngalt said:
“BTW, I, too, am in favor of a consumption tax, such as the Fair Tax, and a complete abolition of income taxes, not only for individuals, but corporations as well. ”
The tax code could certainly use some transparency. Corporate income taxes simply cost consumers more without calling it a tax on consumers.
In a truly free market, people would be free to buy property they can afford – instead of being stuck with the current options of buying more than you can afford (which you can’t do any more because you can’t get financing) or buying nothing (and thus paying FairTax on your inflated rent).
As currently designed, the FairTax represents a massive redistribution from renters to homeowners.bb
rich wheeler said:
“J.G. As long as the IRS exists I believe the wealthiest among us should pay at a higher rate with mortgage deductions and other incentives to home ownership remaining in place.Our society benefits from increased home ownership.”
Can someone – ANYONE – please explain why so many people think homeownership is a great thing which government should promote (esp through the tax code) for everyone EXCEPT low-income people?
If homeownership is worth promoting, why doesn’t government allow affordable ownership options for low-income people?
@Terry Pratt:
I’m not sure if you are criticizing my comments, or merely expanding upon them with your own experiences. I have nothing against anyone, whether they own a home, rent, or live in a box under the freeway. I look for no ‘free rides’ for anyone, along with no extra added advantages due to income level differences, whether they are high, or low, as compared to the median. Simply put, government, our government in particular, should not be in the business of giving handouts targeted to specific groups of people, based on economics, race, age, or any other group distinctions.
And what’s more, with those groupings as they are, politicians use them to force legislation through by pitting groups against one another, trying to create support for legislation that should never see the light of day.
As far as I’m concerned, people should have a right to buy whatever property they can afford, as well as the counter of selling whatever property they have and wish to sell. Also, when discussing ‘property’ rights and government, ‘property’ includes more than just a piece of land.
I don’t, and I’ll tell you why. For one, a flat tax rate like you suggest, if applied across the board, lowers the purchasing power of the lower income families and individuals while increasing the purchasing power of the higher income earners. Now, while this may be “fair” when considering just income, when you are talking about consumption, it is entirely unfair.
My comments about people not paying any taxes were due to the countless tax credits people receive that are targeted to specific groups, and not open to all. While not only being an unfair advantage to the people who fit into such categories, it also runs afoul of the 5th amendment, and equal protection under the laws(states are prevented from same under the 14th amendment, but the USSC has held that the 5th’s ‘due process’ clause encompasses equal protection under federal laws).
Again, I will say that the Fair Tax, a consumption tax, is not only the fairest possible tax system we could have, but with the elimination of corporate taxes under it, would also allow for many of those jobs that went overseas to come back.
@Terry Pratt:
I don’t see this as being the case at all. For one, renters pay now, through their monthly rent, pay not only the landlord’s property taxes, but also the income taxes generated on income from his/her rental properties. Those generate a substantially higher payment than if you were just paying on the principal of his/her mortgage for the property you are renting.
The best I can do to answer your concerns about renting vs. home ownership under the FairTax is to direct you to a source who knows.
http://www.fairtaxblog.com/20050924/fairtax-treatment-of-renting-versus-home-buying/
I don’t see a redistribution happening here.
We’ve been there, done that as a country, and with all the abuses and money stealing schemes we, as a country, are still in trouble because of it.
I am in favor of eliminating or reducing all deductions/offsets/credits and for eliminating the Bush tax benefits for the rich and corporations. We all need to chip in to get this country out of the economic quagmire created by the GOP and Bush for 8 years. There is no reason for homeowners to be subsidized by taxpayers. Fix the tax code so it falls fairly on all, including homeowners, the wealthy top 1-5% and corporations ASAP!
johngalt said:
I don’t see this as being the case at all. For one, renters pay now, through their monthly rent, pay not only the landlord’s property taxes, but also the income taxes generated on income from his/her rental properties. Those generate a substantially higher payment than if you were just paying on the principal of his/her mortgage for the property you are renting.
The redistribution is not only clear, it is blatant: Whenever a renter and a homeowner have equal consumption, the renter ALWAYS pays more FairTax than the homeowner. (So much for this “consumption tax.” Whenever a renter and a homeowner have equal spending, the renter pays more FairTax than the homeowner AND enjoys less consumption than the homeowner. If that’s not redistribution, what do you call it?
Most states impose higher property taxes on a rental property than on an owner-occupied home of equal value. For example, Michigan has a “nonhomestead tax” on rental property, and many states have “homestead exemptions” of varying value. One might regard the property tax on a rental property as representing a tax (the extra tax attributable to rental status) on top of a tax (the base property tax levied on all taxable property).
The FairTax would add a new tax on top of the existing tax on top of a tax. Property taxes paid directly by homeowners would be exempt from FairTax, while property taxes embedded in rent are fully taxable.
Because rental property receives favorable federal treatment under the existing tax code, rental income is largely shielded (by offsets from ‘depreciation’) from the income tax. Because landlords will receive little cost savings under the FairTax – since the current tax on their rental income is minimal plus the largest tax embedded in rent (the property tax) would be unaffected – rents cannot possibly fall significantly (and certainly not anywhere near 23 percent) under the FairTax. This means that virtually all renters will lose purchasing power under the FairTax.
@Terry Pratt:
I think we agree that more taxes should be paid by homeowners and landowners as, presently, renters who generally are lower and middle class, pay all taxes for property owners, even though most renters cannot afford to own a home themselves and have to share apartments as their incomes have been stagnant for 30 years now.
Where I live owners of apartment buildings got and continue to get tax subsidies for building apartment buildings and “affordable housing.” They also deduct as a business expense the costs of running the building; i.e., all salaries paid to workers who maintain it, the costs of boilers etc., and property taxes paid at the state and local levels. For rent stabilized apartments that are supposed to be for the lower and middle classes, they get huge rent increases (20% in the last 6 years and seeking 6-9% this year), always stating their costs of doing business (this year oil) are going up. Meantime, they are charging rents for a studio apartment (350 sq feet) in the $2,000 range and trying to get rid of the lower and middle classes by converting the buildings into condos and coops and charging increases for all improvements made, passing those on to the renters.
Renters and the lower and middle classes should not be subsidizing the wealthy people, real estate developers and investors or homeowners who take tax deductions like these, period. We already did and continue to bail them out of the financial crisis they created in part by inflating the value of their properties. When does the assistance and relief trickle down to the renters and non-homeowners?
johngalt said:
I don’t see this as being the case at all. For one, renters pay now, through their monthly rent, pay not only the landlord’s property taxes, but also the income taxes generated on income from his/her rental properties. Those generate a substantially higher payment than if you were just paying on the principal of his/her mortgage for the property you are renting.
Currently, renters to not bear a substantial amount of the landlord’s income taxes embedded in their rent because landlords can deduct an expense for ‘depreciation’ on their rental properties. This reduces the landlord’s taxable rental income often to a very low number.
This depreciation is subject to recovery and becomes taxable upon sale of the rental property, but they can defer taxes for a long time.
What this means in context of the FairTax is that this feature disappears when the income tax is replaces by the FairTax, and landlords won’t receive a large cost reduction (certainly property taxes which are the largest tax embedded in rent, won’t be affected) enabling them to reduce rents.
There is also the possibility that FT will drive renters on the fence to buy a house, which will mean higher house prices, fewer rental houses, and higher rents…clearly a bad thing for renters who can’t buy.
johngalt said:
We’ve been there, done that as a country, and with all the abuses and money stealing schemes we, as a country, are still in trouble because of it.
Actually, that’s because we did it entirely the wrong way. My way entails NO government interference (no CRA, no lender prodding, no government subsidy) and maximizes personal freedom and property rights.
Pushing lenders to put people into McMansions they cannot afford is of course the wrong way to do it. Allowing willing sellers and willing buyers to transfer real property in increments of mutual agreement keeps government out of it while maximizing property rights and freedom and also putting more people into homes they can afford
I can afford a 400 sf house on 2500 sf piece of land, but government insists a dwelling needs a much larger piece of land before it can be lawfully sold. Government wrongly pushed people into homes they couldn’t afford, instead of getting out of the way and letting people buy, without government subsidy or interference, homes they could afford.
If you don’t want someone to buy such a property in your neighborhood, you should live in an HOA, and not use government as your enforcer.
johngalt said:
We’ve been there, done that as a country, and with all the abuses and money stealing schemes we, as a country, are still in trouble because of it.
That’s because – as you know – we did it entirely the wrong way. My way entails no government interference, no government prodding of lenders, and no government subsidies. We did it by prodding lenders to finance the purchase of McMansions by people who couldn’t afford it. The result should have surprised nobody.
My way is for government to get out of the way and allow willing sellers and willing buyers to determine what buyers can afford, without government interference or subsidy. I can afford a 400 sf house on a 2500 sf piece of and, but zoning rules require much larger land parcels which I cannot afford.
If you don’t like someone buying such a property in your neighborhood, you should live in a HOA, but you shouldn’t use government as your gatekeeper.
Wow! It seems a lot of the responses to this thread have been done by those who have never been landlords. You would think that owning rental property was the actions of the Devil, himself. Let me clarify a few facts for you:
yes, renters pay more for property than property that is personally owned when it is similar in size, situs and condition. Why is that? Because the maintainence and upkeep on the rental property is built into the rental fees. If you rent, and your kid shoves a toy down the toilet cause the toilet to flood the bathroom at 3:00 a.m., the landlord either has to hire someone to repair that problem immediately or get out of bed and fix it himself unlike the homeowner who is responsible for the cost of all repairs. Yes, the rental property owner can deduct the amount of interest he pays on that property, and the cost of upkeep and maintainence, from his profit line, but it is not the great bargain many seem to think it is. Most rental properties have a 10-15 year pay out, which means that you have to own that rental property that many years before you realize any real profit line. Also, rental property is subject to housing value variations, just like private ownership properties are. And the risks of owning, and renting property to others is great. You have no guarantee that although the people you rent to have great credit ratings, seem to be stable, responsible people, that they won’t wind up destroying your property and moving on so that you cannot collect on the damages. People are stupid and they generally don’t take care of a property as well if they are renting as a homeowner would. And seeking legal restitution is very, very expensive and time consuming.
I purchased a small 2 bedroom, 2 bath home that was a pretty good value only because the remodeling could be done by me. I had to rip out all the plumbing since it was old and needed replacing, rewire the entire house to met with city codes, and when I got in, learned that the previous owners had been such dirty people that the place had to have all the sheet rock replaced due to roaches and the stench that they had masked when they put it on the market. After investing over $20K in remodeling expenses, I rented it to a couple that had worked the same jobs in Austin for years, and had a great credit rating. When I contacted their previous landlords, I was told they were “fine people.” They lived in my rental house about 8 months when they had a huge fight and both of them moved out. I was notified by the city that the property needed to have the weeds cut down and that is when I learned the renters had moved out. I found holes in the sheet rock, a bath tub that needed replacing because the wife had dyed curtains in it (black, no less), the carpeting had to be replaced because although it was not allowed by their lease, they had about a dozen cats all using the carpeting as a litter box, not to mention the days that it took me to clean everything in the home with bleach water to try to make it clean for another tenent. I had earned $6,400 in rent, it cost me almost $3,000.00 to make repairs and I lost two months rent in the process. What a deal, right?
Not everyone is cut out to own a home. And part of the reason that the mean average income of renters has dropped is because those in the 40-60% income percentile have, in recent years, become eligible to buy homes due to lax lending rules.
Terry Pratt, you said you could afford a 400 s.f. home on a 2,500 s.f. piece of land but the government prevents that. Where, I might ask? Hundreds of thousands of people live in travel trailers, or small pre-fab cabin type homes, that by law, cannot exceed 400 s.f. and own the small lot it is parked on. If there are restrictions to that in your state, that is a state regulation not a federal one. You also said that landlords enjoy the benefit of depreciation. That is not necessarily true. Since property values increase with every passing year, until recently, any depreciation benefit was offset by increased value and increased property taxes.
I also don’t support the Fair Tax for the very reason that it is based on a consumption tax. And it would never fly because it affects the poor the most. They cannot avoid purchasing things that would be taxed; utilities, groceries, drugs, gasoline, etc. States will never give up their sales tax revenues, and if you live in a state where the sales tax is .0675%, like I do, and you add another 10%, think what another $1,400.00 would do to the sales of a $14,000.00 car. And when you have to talk about “prebates” that only seems like another convoluted scheme requiring IRS envolvement. I personally support a flat tax where you pay a set percentage of your income into the federal coffers, with no deductions. If you choose to buy a home, you understand that part of the cost involves the interest, so why should you be given a deduction for that? If you choose to have three kids, you most certainly should understand that those kids are not without expense, and why should you get a deduction for kids when I have none? Three lines for filing your income tax:
enter the amount of income
multiply by .05% (or some other reasonable percentage)
Pay that amount
The more you earn, the more you pay, but the tax is equitable since everyone is charged the same percentage. Also, there is the question of in-kind contributions that are now not considered income. Unless that is changed, the system will remain unfair, especially for the middle class.
They may opt to use some of the short forms for ease of filing, Nan G… i.e. the 1040EZ or 1040A instead of the 1040. Many don’t go thru the hassle of deductions unless they have quite a few. Considering the questions, I think it was a not so clever oversight to find out how many were actually renters vs owners, or how many traditionally used long form 1040s for their annual filings.
INRE the post topic, I’d be leery about elimination of deductions such as property taxes and interest on loans in exchange for low taxes without some confidence they wouldn’t just raise the taxes anyway after those tax breaks were eliminated. It’s the same reason that I wouldn’t want a national sales tax without a repeal of the 16th Amendment first. And that is the *only* way you can abolish federal income tax.
I know very well Congress would raise the taxes in the future, plus suck up the sales tax for pad their coffers in a heartbeat. Don’t trust them. No sales tax without repeal of the 16th Amendment first. And I just don’t see that happening.
This was my same problem with Cain’s 9-9-9 plan. There was nothing that would give a body confidence that a future Congress wouldn’t happily change that to 15-15-15. It would be cost prohibitive – even at a low rate – for most families. Especially with State sales taxes topping it off. VATs are also out of the question.
What I find most baffling is that when they want to talk about eliminating tax credits, they always go for these first. Surely there are others that are not going to have such a negative affect on the American housing industry – one of our centerpieces of our economy. Reagan focused his tax reform on businesses as opposed to ordinary homeowners. Reforming loopholes isn’t an unheard of event in our history.
Rich is correct. The reason most people buy a home is the tax benefits give them incentive to do so, in addition to the pride and freedom of having a deed in your name. There was also the perk of what should have been slow appreciation, but that’s pretty much history for quite some time.
Remove those tax incentives, and many people may find it more appealing to rent instead of buy because when the cost of maintenance rolls around, they just put that onus on the landlord.
But without property and interest tax deductions, purchasing rental properties… which already do not enjoy an inviting cap rate… is even more uninviting to investors. At that point, they can only hope for accrued equity as a positive. And as I said, even that’s history for awhile.
Add to that there are pockets in the country with local rent control ordinances, which really drive landlord investors nuts.
Some have suggested a choice of flat tax vs current system as well. This gives small businesses that don’t have a lot of tax deductions to claim some different options. No matter what, people are going to take the way that has them paying the least amount of taxes.
IRS reform isn’t going to be easy, and I’m not sure what the answer is. I only know that no matter what reform they do… which is going to be a slithery attempt to seize more revenue … it’s not the answer to the deficit and the debt. Considering you could abscond pretty much 100% of all the evil rich folks’ earnings, and it still won’t make a dent, it’s nothing but a straw-man for the larger problem of spending vs anticipated revenue stream, and the entitlements being the death of us.
@Terry Pratt, I’m not sure of what you mean specifically INRE your “400sf home and 2500sf lot” comment. That’s all depending upon local zoning ordinances.
In Oregon there are many urban areas that have that small of a lot with narrow/tall row house type structures on them. Others incorporate townhomes x 2 on a slightly larger lot, with each owner essentially owning their half for maintenance, but sharing costs of common structures (roof, common walls, etc).
The 400sf is an issue for lenders as few will finance something that small without going thru manual underwriting. But there’s no reason that a small lot must mean that small of living square footage. They just do two story homes with only a single garage vs ranch homes (which take up a larger footprint). It’s not a blanket thing, and all depends upon your city’s zoning ordinances. Builders have maximized limited city acreage into homes and neighborhoods like these for a long time.
As a matter of fact, the average size of a Portland metro home on a 1310 sf to 1740 sf lot (i.e. either .03 to .04 acres) , is anywhere from 1500 to 2300sf in living space size, and has 3-4 bedrooms and 2-3 baths. They are single garage homes, two stories, smaller rooms with kitchen, a half bath, and living room (generally open floor plan area) downstairs, and the bedrooms/baths up. Each home has about 8′ to 10′ between them and the next home. (meaning the high density zoning ordinance allows for as little as 4-5′ set backs from the side property boundaries) They have a patio size rear yard. These are rather like row houses, but without the common wall. They are all over the place, and most aren’t all that cheap, either….