Tax Deduction on Mortgage Points Often ForgottenTax breaks for homeowners are nothing new. The federal government has provided tax breaks to mortgage holders and first time home buyers as a way to drive home sales for decades. Most of us are familiar with the mortgage interest tax deduction, which may be on its way out, but many homebuyers are unaware of another equally helpful break that allows borrowers to deduct mortgage points paid at closing. Mortgage PointsA point on a mortgage is a payment equal to 1% of the full loan amount. Buyers often pay points in exchange for better loan terms and access to a lender’s lowest mortgage rates. Points are paid to lenders. In some cases, sellers pay points on behalf of borrowers as part of broader price negotiations. Points are essentially prepaid interest on the loan. When a point is paid, the yield on the loan increases past the set interest rate, which allows the lender to lower the interest rate charged. The lender makes more money up front, while the borrower saves more money in the long run through reduced interest. Mortgage Point Deduction RequirementsIf you’re paying points on your mortgage, you can probably deduct the full amount of points from your income this year or during the year in which you took out the mortgage. You’ll need to evaluate your loan and your financial situation and make sure you meet the following guidelines. The points must be real points. Each point must be equal to 1% of the principal amount, and the full amount paid in points must be listed on the settlement statement as such. Your loan must be secured by your home. In other words, it must be a mortgage. The catch, though, is that the mortgage must be taken out on your primary residence. Points paid to finance an investment property cannot be deducted. The loan must be a purchase or construction loan. If you’re taking out a refinance loan, you can still deduct the points, but not all at once. The deduction amount will be amortized over the life of the loan. If you’re taking out a fifteen year loan and you’re paying $3,000 in points, you can deduct $200 per year. There is one exception to this. If you’re taking out additional funds in your refinance to make home improvements, you can deduct an equivalent percentage of the total amount of points paid. The points you pay must fall within the range of what is typically charged. In other words, you can’t arrange to pay points on ten years worth of interest in order to gain a higher deduction. You must report income and expenses yearly. Most taxpayers do this. If you’re not sure whether you do or not, chances are that you do. The points must apply to the mortgage interest. If you’re paying points against other closing costs, such as attorney fees or appraisal fees, you can’t deduct them. You must put down at least as much money to cover other expenses at closing as the full amount of points charged. You can’t pay only points. If this were allowed, borrowers and lenders would simply agree to call the down payment and all other expenses “points” in order to claim a higher deduction. These are the basic requirements you must meet in order to leverage your mortgage points as an income tax deduction. More InformationThe best way to learn about mortgage taxation laws is to read the documents published directly by the IRS. Read their extensive publications on homeowner tax information and the mortgage interest deduction to learn more about the benefits the government provides to homeowners. |
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