Buying a home can be very expensive. First there's the down payment. Then there are closing costs, including fees for an appraisal, inspection, and title search. And once you own it, the expenses continue to add up, with everything from maintenance to taxes and insurance.
There are some tax benefits to owning a home, though. Tax-deductible homeowner costs can reduce the amount of income tax you have to pay.
What is a tax-deductible expense?
A tax-deductible expense is one that you can deduct from your adjustable gross income (AGI) when you file your taxes for the year. Deducting these costs reduces your taxable income, and the lower your taxable income, the less you'll pay in taxes.
When looking at potential homeowner tax deductions, it's crucial to know the differences between standard and itemized deductions.
A standard deduction is a specific dollar amount that reduces the amount of income on which you're taxed, based on your filing status, age, and other variables. Itemized deductions include each individual deduction, such as certain homeowner expenses and charitable donations. When filing your income taxes, you must choose either the standard deduction or itemized deductions, not both.
Here are the standard deductions for the 2021 tax year:
• Single or married filed separately: $12,550
• Married filing jointly or eligible widow/widower: $25,100
• Head of household: $18,800
If itemized deductions would decrease your taxable income by more than the standard deduction, you'll probably want to include the following deductions for homeowners to save even more money.
7 tax deductions for homeowners
1. Mortgage interest
Each month, part of your mortgage payment goes toward the principal (the amount you borrowed), and another portion covers interest. Over the entire life of your loan, you can deduct interest paid on up to $750,000 of your principal balance if you're single or married and filing taxes jointly. If you're married filing separately, you may deduct interest paid on up to $375,000 each.
There are some exceptions to this. If you bought your home between Oct. 14, 1987, and Dec. 15, 2017, you can deduct interest paid on up to $1 million over the life of your mortgage. If you bought it before Oct. 14, 1987, you're allowed to deduct all paid interest.
2. Home equity loan interest
A home equity loan is a second mortgage, and you borrow against the equity you have in your home. If your home is worth $350,000 and you still owe $300,000, you have $50,000 of equity.
As with your first mortgage, the interest you pay on your home equity loan may be tax deductible. There are no restrictions on how you can use the cash from a home equity loan, but the interest is only tax-deductible if you use the money on substantial home improvements.
Note: If you've already deducted the maximum allowable amount of interest paid on your mortgage, you won't qualify for additional interest deductions on your home equity loan.
3. Discount points
You have the option to pay a fee, referred to as "discount points," at closing that lowers the interest rate you'll pay on your mortgage. One discount point usually costs 1% of your new mortgage, and it reduces your rate by 0.25%. So if your rate on a $200,000 mortgage is 3.5%, and you pay $4,000 for two discount points, your new interest rate is 3%.
The money you pay for discount points is typically tax deductible over the life of the loan. If you meet a bunch of Internal Revenue Service requirements, your discount points may be fully deductible in the year that you pay them.
Note: Discount points are different from loan origination points, which are fees you'll pay the mortgage lender for processing your mortgage. Loan origination points are not tax deductible.
4. Property taxes
You can deduct up to $10,000 per year in paid property taxes if you're single. You're able to deduct up to $5,000 each if you're married filing separately, or $10,000 if you're married filing jointly. This limit applies to both local and state income and property taxes combined.
5. Mortgage insurance
As of early 2022, mortgage insurance payments through the tax year 2021 will be deductible. It was still undetermined whether mortgage insurance payments for 2022 and beyond will be deductible.
You may deduct private mortgage insurance on conventional mortgages, mortgage insurance on FHA mortgages, the funding fee for VA mortgages, and the guarantee fee for USDA mortgages.
You can deduct all of your insurance premiums if you earn $100,000 or less, or $50,000 if you're married filing separately. If you earn between $100,000 and $109,000, your deduction goes down by 10% for each additional $1,000 you earn.
Your mortgage insurance isn't deductible if you earn $109,000 or more, or $54,500 as a married couple filing separately.
6. Home improvements
Necessary improvements to your home may be tax deductible. For example, you may need to update the home for medical reasons or to make the home accessible for someone with disabilities. These expenses may be deductible if the updates are made to accommodate you, your spouse, or a dependent.
7. Home office costs
You may deduct home office costs if you run a business out of your home and use the space exclusively for business. However, you can't deduct expenses if you work from home for an employer. The amount you can deduct depends on how large your office space is relative to the rest of your home.
What homeowner expenses are not tax deductible?
You can never deduct any of the following expenses from your adjustable gross income:
• Loan origination points
• Title insurance
• Closing costs
• Down payment
• Forfeited earnest money
You might be able to deduct some of the following expenses — but only if they are related to your home office deduction in certain circumstances. If you're wondering about any of these costs, it's best to ask a tax specialist.
• Homeowners insurance
• Fire insurance
• Homeowners association fees
• Refinancing costs
• Depreciation of the home
• Domestic services
Add up your tax deductions in the eight eligible categories to find out if an itemized deduction would save you more money than a standard deduction. If you have questions, reach out to a tax specialist for assistance, or contact Team Beery and we can get you in touch with the best professionals in the business! office@TeamBeery.com or 602-644-1416