Whether you just bought your first home or have a second home, the costs associated with home ownership can be high. The good news is that owning a home may help reduce your tax bill. Here’s an overview of homeowner expenses you can deduct on your tax return, as well as some tips for getting the largest tax advantages out of owning your home.
One common tax deduction related to home ownership is mortgage interest. If you took out a loan to purchase, construct or substantially improve your first or second home, the interest you pay may be deductible. The debt must be secured by the home, and the debt is limited to $1 million. If the debt exceeds $1 million, it may still be partially deductible. Even refinanced mortgages may qualify for deductible interest.
Home equity loan
A home equity loan, better known as a HELOC, secured by your first or second home up to $100,000 may also qualify for the mortgage interest deduction. The good news is that a single loan may be treated as part acquisition debt and part home equity debt. This means you may have a single mortgage balance up to $1.1 million and deduct the interest you paid. Interest on a HELOC is tax deductible, no matter how the proceeds are used.
Mortgage insurance premiums
Some taxpayers may qualify to deduct mortgage insurance premiums. To be able to deduct, you must pay mortgage insurance premiums on a mortgage secured by your first or second home. The deduction is also limited if your adjusted gross income is more than $100,000, and is reduced to zero if your adjusted gross income exceeds $109,000.
Additionally, you may deduct points paid on a loan to purchase or build your principal residence. You may fully deduct the points you pay in the year you purchase your primary home, but you also may choose to amortize (or gradually write off) the points over the life of the loan instead. You might do this if you buy your home late in the year and don’t have enough expenses to itemize deductions that year. Amortizing will allow you to benefit in future years when you have enough expenses to itemize. Points paid to purchase or improve a second home can only be amortized.
Real estate tax
The other most common deduction for home owners is real estate tax. The tax is deductible in the year you pay it, so if you pay your 2016 taxes in 2017, you won’t get to deduct it until you file your 2017 tax return. Unlike the mortgage interest deduction that is limited to your first or second home, real estate taxes are deductible for all properties you own.
In the year you buy or sell your home, you can deduct a portion of the real estate tax applicable to the time you owned it. Your settlement statement will show the portion of real estate tax that may be deducted by the seller. If you buy your home mid-year and pay the property taxes in November, you’ll need to reduce the amount by the credit you received at closing.
Besides real estate taxes, sales tax also may be a deduction. If you live in a state that doesn’t have income tax, you may instead include state and local sales taxes with your itemized deductions. Homeowners who deduct sales taxes may include the sales tax paid on mobile and prefabricated homes. If structured correctly, you also may deduct sales tax on home building materials.
Generally, home improvements are not tax deductible. There is an exception however, for permanent home improvements if the main purpose of the expense is to provide medical benefits. Examples of fully deductible home improvements include entrance ramps, wider doorways, railings or other modifications to accommodate a physical handicap. These expenses are classified as deductible medical expenses, which are subject to a higher deduction threshold based on your adjusted gross income.
There is also a tax credit available to homeowners for installing residential energy efficient property. The one-time tax credit is equal to 30% of the cost (including labor and installation) of geothermal heat pumps, solar panels, fuel cells and small wind-energy systems. The equipment must be installed on a personal residence. The credit for fuel cells is available only if installed on your primary residence.
Renting out a second home
If you own a second home, there’s potential to make some extra money tax-free. If you rent for 14 or fewer days during the year, regardless of the amount you charge, you don’t need to report the income to the IRS. If you rent the home for more than 14 days, it can get more complicated, and you must report all the rental income.
Selling your primary residence
One final tax break with homeownership is when selling your primary residence. The IRS will allow you to exclude up to $250,000 of the gain if you’re single or $500,000 for married couples. The home must have been your primary residence for two of the last five years, and neither spouse can have used the gain exclusion on the sale of another home in the last two years. This provision can provide a lot of relief if your home has appreciated since you purchased it.
This information is general in nature and may not apply to your specific situation. Always consult a licensed Certified Public Accountant for tax questions.
Elaine Sutter is a licensed CPA in Tallahassee, Florida with Thomas Howell Ferguson P.A. CPAs and a member of the Florida Institute of Certified Public Accountants. Learn more at www.thf-cpa.com and www.ficpa.org.
Learn something new? Want to pass an idea to a friend?
Share the knowledge with your network!