Tax Breaks of Home Ownership

Hi. There are many benefits of home ownership. As your REALTOR I want to help inform you about the home buying process so you can make an educated decision as you move ahead with one of the most important investments of your life. So call me anytime. I am here to serve you and will address any of your questions and concerns. One of biggest benefits of home ownership is the tremendous tax break you will receive. It is definitely a topic worth exploring, so lets take a closer look.

First-time Buyers and New Buyers Always Benefit

We all know that Uncle Sam plays a big role where our taxes are concerned and not always to our benefit. However, if you buy a home, Uncle Sam offers you a variety of tax breaks. But taxes are messy and complicated in many cases. So I would encourage you to learn all about the benefits, the pitfalls and how to file the paperwork properly. Tax breaks for homeowners have been around for more than 75 years. The benefit really pays off for first-time home buyers or buyers with new mortgages because during the early years of the loan most of your monthly payment pays the interest, which is tax deductible. In fact, very little principal is paid back. Let me give you an example. At the end of the first year of a 30-year fixed mortgage at 8 percent, less than 1 percent of the principal is repaid. Ouch! Thats not much. But remember, all that interest paid is deductible. The longer you pay on an amortized loan, the more of each payment is applied to the principal. Less of each monthly payment goes toward interest. You lose some of your interest write-off as you build equity in the property. Also keep in mind that you can only take these tax deductions if you itemize deductions on your tax return. If your itemized deductions, including mortgage interest and property taxes, do not exceed the standard deduction amount, you are better off taking the standard deduction. But new mortgage holders almost always benefit.

So what is deductible?

It is important to know what is deductible and what is not. There is of course the obvious, which is the interest paid on your home loan. But don't forget about your property taxes. They are also completely deductible. And if you paid any loan points to buy down the interest rate on your loan, don't forget to deduct those as well. Points work a little different with a refinance however. They are written off in increments over the term of the loan. Be sure and consult your tax consultant for details. There are many things we wish we could deduct in regards to a new home purchase. But certain things are just not allowed, like real estate commissions paid to real estate or loan brokers, home appraisals, inspections or loan application fees, closing costs other than prorated property taxes and points on the home loan, home improvement expenses, insurance expenses and homeowner and co-op dues.

Be aware of capital gains

The way things used to work aren't how things work nowadays. Congress scrapped the old rule that required you to reinvest the proceeds of the sale of your home in a new, more-expensive property in order to avoid taxes. The new rules don't turn on whether you reinvest or not. Instead, the new rules require that you own and live in your home for a period of two years within the five years preceding its sale. If you meet the ownership-and-use test, you don't have to buy a new home and you can exclude up to $250,000 in gain, or $500,000 in the case of a married couple that files a joint return. In your case, unless the sale is motivated by special reasons, you would not be able to exclude from income the $40,000 in gain ($373,000 minus the $22,000 commission minus $16,000 in improvements minus $295,000 cost). Since you held the property for more than one year, you would pay long-term capital gains tax of 15 percent or $6,000 in tax. If you sell because of special reasons then you would get a partial exclusion.

Special reasons would be:

1. Job-related move
2. Health-related move, or
3. Unforeseen circumstances

The partial exclusion is the $250,000 (or $500,000) maximum exclusion multiplied by a fraction, the numerator of which is the number of months you met the ownership-and-use test and the denominator of which is 24 (the number of months in two years). In your case, if the sale was motivated by these special reasons, the available partial exclusion would be sufficient to eliminate your gain. If you would like more details about any of this information, please don't hesitate to call me. I may be able to answer additional questions or I will be happy to refer you to another professional.