Tax Time is Homeowner Deduction Time
Monday, May 4, 2009
Which season is the best time to be a homeowner? Tax season! Along with the freedom to paint and remodel, tax breaks are one of the many perks of homeownership.
The bad news? Unless you choose to take the standard deduction, your days of “EZ” tax returns are over. You’ll need to pick up the 1040 long form and itemize your deductions on Schedule A. Get IRS forms here.
Most state and local governments charge property taxes, which are an annual tax on the value of your property. You can deduct all of the real estate taxes that you pay.
There is some good news about those monthly mortgage bills: A part of the soul-crushing sum can be deducted on your tax return. For most homeowners, the bulk of each payment goes towards interest. That interest is tax deductible, up to a total of $1 million ($500,000 if you are married filing separately) on loans taken out to buy, build or substantially improve a principal residence and a second home. Any type of home is eligible: a mobile home, house, condo or even a houseboat.
In order to deduct mortgage interest on your second home, you must stay there at least 14 days a year or more than 10 percent of the days it is rented during a year. If you don’t meet this requirement, it is considered a rental property rather than a second home.
Also, other rules apply if you rent out space in your primary residence.
“Talk to a tax professional. You have to report the income because that is business use of the home as well as residential,” explains Alison Flores, a research analyst at the H&R Block Tax Institute.
You can also deduct interest on home equity loans of less than $100,000 ($50,000 if single or married filing separately), as long as the first and second mortgages total less than the value of your home.
EXAMPLE: You take out a $40,000 home equity loan to pay for your son’s college tuition. Your home is worth $100,000, and you owe $70,000. You can deduct the interest on $30,000 dollars of the loan, but you’re on your own for the remaining $10,000.
If you deduct enough mortgage interest to get a tax refund, you’ll need to claim that money as income in the year you receive it.
Always consult your tax advisor. For more information, read IRS Publication 936.
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Congratulations — you’re a homeowner! Now that you’ve moved into your new digs, you’ll need to:
- Decide what color to paint the living room
- Sort through those last few boxes (eventually)
- Learn about tax deductions for new homeowners
Even before you sign on the dotted line, you can get a mortgage credit certificate (MCC), which is intended to help lower-income buyers afford homeownership.
If you qualify, you can claim the credit each year to cover part of your home’s interest. The only catch: You must get an MCC before you get a mortgage and buy a home. Contact your state or local housing finance agency for more information.
You’re eligible for a host of tax deductions the minute you get the keys to your front door. Like all homeowners, you can subtract real estate taxes and mortgage interest from your tax tab. Even if you bought a home in December, it’s worth getting a few dollars off your IRS bill.
The year you buy your home, you can also deduct any money paid towards mortgage points. The term “points” refers to charges paid by a borrower to get a mortgage, and can also be called loan discounts, discount points, origination fees or maximum loan charges.
You must meet these criteria to qualify: You are buying (not refinancing) a primary residence. Your loan must be secured by the home you live in most of the time.
· Your overall cash paid at closing exceeds the points charged. This can include money from you, or points paid by the seller. You can’t deduct points you paid for with borrowed funds from a lender or mortgage broker.
· You’re not using the points to avoid traditional closing costs. If you paid points in lieu of closing costs, like title insurance and attorney’s fees, you can’t get a tax credit.
If you meet that criteria, the amount on your settlement statement that’s listed as “points charged for the mortgage” can be deducted from your taxes.
If you refinanced your mortgage, the points you paid are not deductible in the year you paid them, unlike the points you paid when you first took out your mortgage. For refinanced mortgages, you have to deduct the points equally over the life of the loan. This also goes for loans you take out to buy a second home or investment property.
HERE’S HOW: Divide the points paid by the number of payments to be made over the life of the loan. EXAMPLE: If you paid $2,000 in points and will make 360 payments on a 30-year mortgage, you can deduct $66.72 [($2,000/360) x 12] each year, assuming you make 12 mortgage payments in a year.
There is an exception: If you use part of the money for home improvements, you can deduct the portion of points related to the improvements in the year you paid them.
EXAMPLE: If you refinanced your $200,000 mortgage with a new 30-year loan of $250,000, paid $2,000 in points and used the extra $50,000 to make home improvements, you can deduct 20 percent or $400 [($50,000/250,000) x 2,000] of points in the year they were paid. The remaining points paid must be deducted equally over 360 monthly payments or $53.28 [($1,600/360) x 12] each year.
NOTE: If your mortgage ends early because you paid it off, refinanced it with another lender or sold the home, you can deduct any remaining points for the mortgage in that year. So, in the above example, if you sold the house the following year, you can deduct $1,546.72 ($1,600-$53.28).
