Buying a home can bring a number of changes into your life, including financial ones. But for first time home buyers, those financial changes can be good news, especially at tax time. Most people know that there are significant tax benefits to buying a home, but often aren't clear on exactly what's deductible. So as 2007 winds down, I've compiled this brief list of tax benefits related to a home purchase. Not all deductions apply to every situation, of course, so think of this as a list of things to discuss with your tax advisor.
Mortgage Interest – Most homeowners are well aware of the mortgage interest deduction, as this is typically a large amount that makes the decision to itemize on Schedule A a no-brainer. You’ll receive a Form 1098 from your bank with the amount you can deduct on Schedule A. For most first time borrowers, but bulk of your mortgage payments for the first few years are mostly interest, so this one adds up quickly! Interest on second trusts and Home Equity Lines of Credit (HELs or HELOCs) are also deductible within certain guidelines. (Note: If you find that you are receiving a very large refund, you may wish to adjust your withholding using the IRS’ calculator here. )
PMI - Private Mortgage Insurance (PMI) is now tax deductible. But look out - this only applies to loans originated in 2007, so not everyone will benefit. There are also income limitations, and at least so far, this is just a one-year deal, so don't assume you can deduct it in 2008 and beyond. (Update Dec 2007: Congress extended the deduction for mortgages originating between 2007 -2010. Families with AGI up to $100K are eligible for the deduction, with the deduction being phased out up to an AGI of $109K.)
Points – Points—that is, mortgage interest that you prepaid at settlement—are also deductible. A point is equal to 1% of the amount borrowed. This one may or may not be on your 1098, but will be on your HUD-1 settlement statement from your closing. Can’t find your settlement statement? Ask you agent or settlement attorney for another copy. Some agents (myself included) automatically mail another copy to clients in the beginning of the year following the purchase. If you refinanced this year, then points can be deducted over the life of the mortgage.
Property Taxes – Your real estate taxes will also be deductible on Schedule A. It's easy to forget this deduction because most lenders collect it from borrowers as part of their monthly mortgage payment, and pay the local jurisdiction on their behalf. If you’ve prepaid, then the payment is deductible in the year of actual payment. So don’t forget to check that settlement statement to see if you prepaid any taxes that your lender may not be reporting!
Relocations – If you moved as a result of a job change, many of your unreimbursed moving costs may be deductible.
Upgrades and Updates to Your Home – If you made certain energy-efficient updates to your home in 2007, including high efficiency HVACs, new windows or doors, or tankless hot water heaters, you can qualify for a tax credit. Read more here.
Capital Gains – The first $250,000 in profits from the sale of your home ($500,000 if married filing jointly) is generally tax-exempt if the property was your primary residence for two of the last five years.
Now for the bad news: Some costs are yours alone—don’t try to deduct these expenses: HOA or Condo dues (though the property tax portion of co-op fees may be deductible--consult a tax advisor), property insurance, depreciation, general closing costs, repairs and maintenance, or local assessments that increase the value of your neighborhood (like installing sidewalks.) But hold on to any receipts; certain property improvements add to the basis of your home, and can help exempt profits when you sell.
While organizing all of the paperwork may take a little more time than was required when renting, the result is well worth it for most new homeowners. You may be pleasantly surprised with the difference in amount owed versus what you paid as a renter. Think of it as Uncle Sam's way of subsidizing your housing payment.
General disclaimer: This advice is not intended to apply to all situations, as exceptions and limitations apply. Please consult a tax advisor for your personal situation. IRS guidance can be found at www.irs.gov