10 Tax Benefits Of Owning A Home

by Amy Fontinelle

Forbes Advisor

Thursday April 29, 2021

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Stock image  (Source:Getty Images)

Does Uncle Sam want you to own a home? Not necessarily, but the real estate industry does, and its members lobby politicians hard to create and maintain tax benefits for homeownership.

Since the Tax Cuts and Jobs Act doubled the standard deduction a few years ago, far fewer taxpayers benefit from itemizing deductions like mortgage interest and property taxes, and those who do tend to need the extra savings the least because they're in the highest income brackets.

Still, you should take advantage of whatever tax benefits you qualify for as a homeowner, and while many (if not most) households will see little to no tax savings, benefits such as the home office deduction and mortgage credit certificates can help even if you don't itemize.


How Home Tax Deductions Work

First, a quick lesson (or refresher) on income tax deductions:

A deduction reduces how much tax you owe, but only if you itemize. It only makes sense to itemize when your itemized deductions are higher than the standard deduction. The dollar amount of itemized deductions in excess of the standard deduction is the only part you save money on. Multiply this excess amount times your marginal tax rate to see how much the deduction saves you.

Filing Status

How much you save from the tax benefits of owning a home depends largely on your filing status and income. If a single person, a head of household and a married couple each buy the same house for the same price, get the same mortgage and have the same deductions (let's say $30,000), the married couple will enjoy significantly lower savings from their home tax deductions, as the table below illustrates.

The table also shows that itemizing doesn't save as much as people sometimes think, and it's more beneficial for single, higher-income homeowners.

2020 Tax Year Homeowner Deductions

Types of Tax Breaks for Buying a House

The IRS offers many tax breaks that can help offset the substantial costs of buying and owning a home. Most states offer tax breaks similar or identical to the federal ones. Here, we'll discuss the most common federal tax breaks for homeowners.

Mortgage Interest

You can deduct the interest you pay on up to $750,000 of mortgage debt ($375,000 if married filing separately). If your mortgage is $250,000, you don't need to worry about this rule. If your mortgage is $1 million, be aware that you can't deduct all your mortgage interest.

You'll have to check a few other boxes to deduct your mortgage interest:

  • The mortgage must be secured by your home
  • The proceeds must be used to build, buy or substantially improve your primary residence or second home

    Basically, these rules mean you can't claim the deduction on an investment property, and you can't claim it if you're borrowing against your home equity to pay for college.

    You pay more mortgage interest in the earlier years of your mortgage than in the later years. As a result, any homeowner tax benefits you see from itemizing may gradually decline (or it might not, if your property taxes go up every year), and the shorter your mortgage, the faster this will happen.

    Even so, paying less money in the first place is always better than getting a small percentage of that money back as a homeowner tax deduction.

    Real Estate Taxes

    You can deduct state and local property taxes in the year you pay them. This deduction is limited to $10,000 per year ($5,000 if married filing separately) and falls under the same umbrella as sales taxes and state and local income taxes. If you live in a state with high property taxes and/or high income taxes, you may not be able to deduct everything you pay.

    One more detail: You can either deduct state and local income taxes or state sales taxes, but not both. So your $10,000 limit applies to either property taxes plus state and local income taxes or property taxes plus state sales taxes.

    Points

    If you pay discount points when you take out your mortgage, you can deduct them, usually in the year you pay them (but sometimes only over the life of your loan).

    To qualify, you have to meet a bunch of tests that boil down to being able to say no if the IRS were to ask: "Did your lender say, 'We're just gonna call all these other mortgage fees points even though they're not, and that way you can deduct them?'" You need to have legitimately paid points to reduce your interest rate.

    What if the home's seller paid points for you? You can still deduct them. But keep a copy of that year's tax return indefinitely, because you're going to need it when you sell and have to remember to reduce your home's cost basis — the price you paid for it — by the amount the seller paid for your points.

    Private Mortgage Insurance

    The IRS counts all of these as tax-deductible mortgage insurance:

  • Private mortgage insurance
  • VA loan funding fee
  • USDA loan guarantee fee
  • FHA loan up-front mortgage insurance premiums

    If your income is too high, you can't claim this deduction. It phases out once your adjusted gross income (AGI) exceeds $100,000 whether you're married or single (the limit is $50,000 if you're married and file separately). You can't claim it at all once your AGI surpasses $109,000 ($54,500 if you're married and file separately).

    Also, this tax deduction is subject to expiration, so check the tax rules for the current year before you count on these savings.

    Home Office Deduction

    If you're an employee who works from home, you can't claim the home office deduction. The deduction only applies to small business owners, including self-employed people, who use part of their home regularly and exclusively as their primary place of business.

    Here are the two main exceptions to these rules:

  • You can claim deductions for part of your home that you use to store inventory or samples for your business without meeting the regular and exclusive use criteria if your home is your only business location.
  • You can deduct expenses associated with a separate structure on your property that you use regularly and exclusively for your business, even if it's not your primary business location.

    What types of home expenses can you claim with the home office deduction? Here are the most common:

  • Real estate taxes
  • Home mortgage interest
  • Mortgage insurance premiums
  • Depreciation
  • Insurance
  • Repairs
  • Security system
  • Utilities

    The home office deduction offers excellent opportunities for tax savings, especially in light of the higher standard deductions passed under the Trump administration that might mean you don't benefit from itemizing your property taxes, mortgage interest and mortgage insurance premiums.

    However, this tax break also has many rules that you must follow carefully to claim it legitimately. One of these is that you can't double-dip by claiming the same deductions on both Schedule A and for your home office. Any good tax program will make these adjustments automatically.

    Medically Necessary Home Improvements

    As part of the medical expenses tax deduction, you can deduct medically necessary home improvements that help you, your spouse or dependents who live with you. Examples include widening doorways, installing ramps or lifts, lowering cabinets and adding railings.

    This is another tricky deduction to qualify for. Not only do you need to be itemizing to claim it, but you can only deduct medical expenses that exceed 7.5% of your AGI. Modifications that increase the value of your home must be prorated so your deduction only applies to the medical part of your spending.

    Home Sale

    When you make money from selling something, the IRS generally wants a cut of your profits. That's also true when you sell your home, but you'll get a big chunk of any profit tax free if you're lived in your home two of the last five years.

    The capital gains tax exclusion says you don't have to pay taxes on the first $250,000 of profit from selling your home if you're single, or $500,000 if you're married. These amounts are exemptions, which let you keep much more of your money than a capital gains deduction would.

    As a homeowner, you'll want to save receipts for costs associated with maintaining and improving your home. You can add many of these expenses to your home's cost basis to reduce any capital gains when you sell. Your home's basis is the purchase price plus the costs you paid to maintain, improve and sell your home.

    Moving Expenses

    Moving expenses are not tax deductible unless you are a member of the armed forces. If you are, moving expenses are tax deductible if you're on active duty and have to move because of a permanent change of station. You can't deduct expenses that the military paid or reimbursed you for. And if the military will pay, great!

    If not, these are the expenses you may be able to deduct for yourself and household family members:

  • Transportation and storage of household and personal items
  • Travel and lodging from your old home to your new home

    Tax Credits

    Tax credits are especially valuable because they reduce the tax you owe dollar for dollar. If you get a $1,000 tax credit, you owe $1,000 less on your taxes. If you get a $1,000 tax deduction, you only save the amount of the deduction multiplied by your marginal tax rate. For example, if your marginal rate is 22%, a $1,000 deduction saves you $222.

    Plus, the deduction only helps if you itemize, while the credit helps even if you don't. Only a few deductions are "above-the-line" deductions (technically called "adjustments to income" that apply even if you don't itemize your deductions).

    These include student loan interest, IRA contributions and self-employed retirement account contributions, as well as the moving expenses deduction for members of the armed forces, but no other homeownership deductions.

    Energy Efficiency

    Through Dec. 31, 2021, you can get nonrefundable tax credits for alternative energy improvements to your home. These expenses are eligible:

  • Solar electric property
  • Solar water heaters
  • Geothermal heat pumps
  • Small wind turbines
  • Fuel cell property

    The tax credit depends on when you place the item in service. If you place it in service during 2021, the credit is 22% of the item's cost with a limit of $500 on fuel cells. If you placed it in service during 2020, the credit is 26%.

    Mortgage Credit Certificate

    Low- to moderate-income and first-time homebuyers may be eligible for mortgage credit certificates offered by their state's Housing Finance Agency (HFA). Here's how they work.

    Let's say you owe $10,000 in mortgage interest for 2021 and your state HFA issues you a 20% mortgage credit certificate. You will get a credit for 20% of $10,000, or $2,000, on your 2021 tax return. You can then include the remaining $8,000 of interest in your itemized deductions if it benefits you to itemize rather than take the standard deduction.

    This tax credit is nonrefundable, which means if the total tax you owe for the year is $1,500; you will not get a $500 refund. However, you can carry the unused $500 of your credit forward and apply it in one of the next three years.

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