Allowable Deductions for Home Buyers and Those Who Have Refinanced
Deducting Points when Buying a Home
When buying a home, points are deductible in the year they are paid, providing they meet certain conditions. The main conditions are that the mortgage is secured by the home you live in most of the time and that you used this mortgage to either purchase or build your home. The only other major condition is that the points must be clearly stated on the HUD1 Settlement Statement. This is a document you receive after closing that clearly lays out all the costs involved in buying the home. The seller also receives a HUD1.
Deducting Seller Paid Points
When purchasing a home, sometimes the buyer negotiates for the seller to pay some closing costs, including the points. If the seller pays the buyer’s points, the Internal Revenue Service allows the buyer to deduct this as an expense on their federal tax returns. However, the seller cannot deduct them, too. Paying the buyer’s closing costs, including points, merely reduces the net gain on the home for purposes in calculating capital gains taxes (which are usually deferred).
Deducting Points on Second Homes
Points paid to finance the purchase of a second home must be deducted over the life of the loan, not in the year in which they are paid.
Deducting Points on Refinances
Points paid to refinance a home must be deducted over the life of the loan, not in the year in which they are paid.
Other Deductible Closing Costs
With two exceptions, other closing costs are not deductible. Those exceptions are pre-paid interest and pro-rated property taxes. When you buy a home, you may close on any day of the month. However, most lenders want their mortgage payment due on the first of each month. So if you close on the 20th, for example, you "pre-pay" ten days of interest as part of your closing costs. The ten days of interest pays you up to the end of the month. Your first mortgage payment will not be on the first of the following month, but the month after that. Unlike renting, where you pay in advance, mortgages are paid in arrears. Since interest is a deductible expense, prepaid interest is also deductible.
A similar thing happens with property taxes. The seller's last property tax payment may have covered part of the time where you will actually be the owner of the home. The settlement agent will calculate how much of that last bill you should pay and charge it to you as a closing cost called "pro-rated property taxes." This is also deductible.
Buyers who make a down payment of less than 20% of a home's cost usually get stuck paying premiums for private mortgage insurance (PMI), an extra fee that protects the lender if the borrower fails to repay the loan. For mortgages issued after 2006, PMI premiums can be deducted by home buyers.
The mortgage insurance tax-deductibility law has been extended through 2011.
Eligible borrowers with adjusted gross incomes up to $100,000 may be able to deduct 100% of the MI premiums paid in 2011.
Deductions are phased out in 10% increments for borrowers with adjusted gross incomes between $100,000 and $109,000.
First-time Homebuyer Credit
If you received the $7,500 first-time homebuyer credit for the purchase of a home in 2008, you must begin repaying the credit by adding $500 each year to your tax bill - for 15 years - starting with your 2010 return. The $8,000 credit for first-time buyers and $6,500 credit for long-time residents who bought homes in 2009 and 2010 does not have to be repaid...unless you stop using the home as your principal residence within three years of the time you bought it. If you move out of the place before those 36 months are up, you have to repay the credit with the tax return for the year you leave the house. Note: You never have to repay more than the profit on the sale of the home.
There are a few exceptions to the repayment requirement. It's waived in the case of death, for example, or if the home is "involuntarily converted" from your principal residence (i.e. destroyed in a storm) and you buy a new principal residence within two years. Another exception waives the repayment requirement if the owner transfers the home to a spouse or former spouse incident to a divorce. And, service members who cease using the home as a principal residence within three years as a result of being deployed more than 50 miles away from the home for more than 90 days or indefinitely do not have to repay the credit.
If none of the exceptions apply, however, someone who sells or ceases to use the home as his or her principal residence during the first 36 months after purchase would be required to repay the credit.
Registered Tax Return Preparer/Certified Public Accountants
Whenever you reach a point where you begin itemizing deductions, it is best to have your tax returns prepared by a Registered Tax Return Preparer or Certified Public Accountant.
If you would like to review your mortgage needs or if you know anyone who could benefit from our services; please contact us at 734.669.5880. Information deemed accurate. Please consult your CPA or tax advisor for further info. We have CPA names available if needed.