Tax Deductions for Home Ownership
By Joseph Smith, EA, contributor
You have probably heard that home ownership has a lot of tax advantages, and many travelers continue to own their homes even while they are on the road. In fact, expenses associated with home ownership account for the largest and most effective tax breaks that most people have. Below is a look at them in order of magnitude.
1) Private Mortgage Insurance (PMI)
This is often confused with hazard insurance which provides payments for damages by storms and other incidents. PMI protects the lender should you default on your mortgage and is often required when your equity in the home is less than 20% of value. PMI has not always been deductible, but then came the housing slump, and PMI premiums were affected as well by all the foreclosures. In 2007, Congress added PMI to the list of deductible expenses for home ownership, but each year a new vote is required to extend the provision. For now, any mortgage created in 2007 and later qualifies. Note that this is not based on a home purchase, but a new mortgage. Also, this deduction phases out with incomes of greater than $100,000 for married filers and $50,000 for single filers.
In recent years, it has become popular to pay advance PMI in a lump sum during the home purchase to reduce the subsequent monthly PMI premiums. Lump sum PMI cannot be deducted in the year paid, but it is written off over the next 84 months (7 years) or the term of the loan, whichever is lower. One good thing about PMI is that once the equity in your home exceeds 20%, you can usually drop the insurance.
2) Real Estate Taxes
For most people, real estate taxes can be significant. On a $200,000 home, it is not uncommon to pay $3,000 of taxes annually in some states. Based on the place you live, real estate taxes can either be levied by the county, city or both.
3) Mortgage Interest
The largest deduction by far is mortgage interest. For a $200,000 home, the first full year deduction can be as high as $8,000. Most people who have mortgage interest will itemize on their tax returns, thereby taking advantage of the other items already mentioned. All mortgages associated with the home are eligible. That means any refinancing, and second and third mortgages can potentially add to the deductible interest. “Points” are another version of interest in that they are expenses to “pay down” the interest rate. The only time points are not fully deductible is during a refinance on a home where points were already deducted, In that case, the points are deducted over the life of the new loan.
All of these deductions apply to not only the first home, but a second home that is used for personal reasons such as a vacation home. One last thing to mention is that many people mistakenly believe they can deduct the entire mortgage payment. One can never write off the principal payments for a personal residence. It’s the additional components of mortgage insurance, taxes and interest that are deductible. Usually, the insurance and taxes are paid through the “escrow” account of the mortgage, so it’s important to keep track of that account.
About the author:
Joseph Smith is an IRS Enrolled Agent (EA) and former travel respiratory therapist whose firm, TravelTax, provides tax preparation and audit representation for the mobile professional.
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