Some of the more common questions we receive, and especially from first-time homebuyers are related to the Tax Benefits of Homeownership.
Mortgage Interest Deduction:
Under 26 U.S.C. § 163(h) of the Internal Revenue Code, the Internal Revenue Service (IRS) allows a home mortgage interest deduction, with several limitations.
First, the taxpayer must elect to itemize deductions, and the total itemized deductions must exceed the Standard Deduction, otherwise, itemization would not reduce tax. Second, the deduction is limited to interest on debts secured by a principal residence or second/vacation home. Third, interest is deductible only on the first $1 Million of mortgage debt used for acquiring, construction, or substantially improving the residence, or the first $100,000 of home equity debt regardless of the purpose or use of the mortgage loan.
If you own a home and have a mortgage, you are making monthly payments towards the loan. Part of your payment is towards principal and part of it is towards the interest on the mortgage loan. In general, your mortgage interest will be tax deductible. Let’s say you make $9,000 in mortgage interest payments for 2012 and you earn $50,000 a year. You are able to deduct $9,000 from your income so that it appears, for tax purposes, that you only made $45,000 a year.
Since you are in the 15% marginal tax bracket, according to the 2012 Federal income tax bracket , your actual savings is 15% on the $9,000 – or $1,350. You can measure the financial benefit of a deduction by multiplying it by your marginal tax rate.
Mortgage Insurance Deduction:
Great news for 2013 and for those you paid mortgage insurance (MI) premiums in 2012! Back in 2006 the ability for homeowners to deduct MI premiums was enacted, and it allowed for homebuyers who were purchasing homes and homeowners who were refinancing their home loans to write of their MI premiums. However this legislation was not renewed upon its expiration on January 1, 2012, and therefore homeowners were not expecting to be able to deduct MI moving forward.
However, contained in the “Fiscal Cliff” negotiations, included a reinstatement and extension of the expired ability of homeowners to treat MI as a tax deduction, with the deduction being retroactively reinstated to apply to any MI premiums paid after January 1, 2012.
Borrowers who are single or married and filing jointly with adjusted gross incomes of $100,000 or less can write off 100% of their annual mortgage insurance premiums. Married households filing singly can write off 50% of premiums. Borrowers with incomes above $100,000 may qualify for partial deductions on a sliding scale.
Property Tax Deduction:
Most homeowners pay property taxes to a local, state or foreign government. In most cases, property taxes are deductible. They must be charged uniformly against all property in the jurisdiction and must be based on the assessed value.
Many states and counties also impose property taxes for local improvements to property, such as assessments for streets, sidewalks, and sewer lines. These taxes cannot be deducted. Local property taxes are deductible only if they are for maintenance or repair, or interest charges related to those benefits.
Deducting Points When Purchasing or Refinancing:
Points (sometimes called a Loan Origination Fee or Loan Discount Fee) paid at the closing when purchasing your new home can be fully deducted in the year that they are paid. Meaning, if you purchased a home in 2012 and your new mortgage amount was $200,000, and you paid 1% of the mortgage loan ($2,000) in the form of a Loan Origination and/or Loan Discount fee, than you may deduct the full $2,000 on your 2012 tax returns.
Points paid during refinancing must be deducted over the life of the loan. For a 30 year loan, you divide the points by 30 and get to deduct that amount each year.
However, there is an exception.
If you did a “cash out” refinance and used some of the funds to improve your primary residence, a portion of the points are deductible in the year you paid them. That portion is related to how much of the loan was used for home improvement. If you obtained a $200,000 loan and $50,000 was used for home improvement, then one-fourth of the points are deductible in the year you obtained the loan.
Save your receipts.
Investment (Rental) Properties:
When it comes to Real Estate that you may own for investment purposes, there are many more tax benefits, since when owning investment property, this is considered more like a business than anything. Costs you incur to place the property in service, manage it and maintain it generally are deductible. Even if your rental property is temporarily vacant, the expenses are still deductible while the property is vacant and held out for rent. Also, the most favorable tax deduction is the depreciation that you can claim on your tax returns which can be significant.
Deductible expenses include, but are not limited to: Advertising, cleaning and maintenance, commissions, depreciation, homeowner association dues and condo fees, insurance premiums, interest expense, local property taxes, management fees, pest control, professional fees, rental of equipment, rents you paid to others, repairs, supplies, trash removal fees, travel expenses, utilities, yard maintenance, as well as any costs to travel back and forth to your rental property.
All expenses you deduct must be ordinary and necessary, and not extravagant.
Capital Gains apply when selling any asset that goes up in value from the time one makes the purchase of the asset and sells the asset. For example, if you purchase Apple Stock for a certain amount a share, and then sell Apple Stock a year later for a profit, you must pay Capital Gains tax on the net profit.
However, when it comes to Real Estate and homeownership, benefits related to Capital Gains tax is by far the best tax benefit a homeowner receives. That’s because if you have owned and occupied your primary/principal residence for at least 2 of the past 5 years, you can earn up to $500,000 on the sale of that home and pay NO federal income tax what-so-ever! That’s assuming you are married – singles get up to $250,000 tax free – and here’s the best part – you can do this as often as every 2 years for the rest of your life!
The Best Kept Secret in Homeownership:
Mortgage Credit Certificate (MCC) Program. The MCC is a homeownership tax credit program from the IRS, which provides eligible home buyers a dollar-for-dollar Tax Credit which lowers the amount of federal taxes they are required to pay to the IRS. An MCC is an on-going Tax Credit that can continue year after year for as long as you retain the first mortgage and occupy the home as your primary residence.
As an MCC holder you may claim this Tax Credit, which is a dollar-for-dollar reduction of income tax liability equal to 20% of the paid mortgage interest on your first mortgage. The remaining 80% of the paid mortgage interest continues to qualify as an itemized Tax Deduction. This program “supercharges” your federal tax savings above and beyond the normal and popular mortgage interest and mortgage insurance deductions. Call us to learn more about this phenomenal program that’s saving Colorado Homebuyers an average of $130 a month each and every year they live in their home*
So, when it comes to owning a home and taxes, you can see that there are many reasons why homeownership makes great financial sense and provides tax payers with many ways to save money through deductions and credits.
For further information on how to maximize these tax benefits, please consult a CPA or other Tax Professional. If you would like a recommendation for a CPA or other Tax Professional, please let us know and we here at Homeowner’s Blueprint will be happy to provide one.
*Please remember that we don’t have all your information. Therefore, the average amount of savings stated in this article may not reflect your actual situation. To get more accurate and personalized results, complete the form below or call (720) 295-8214 to talk to one of our MCC Mortgage Experts.