Want to save thousands on your taxes? Consider buying a home. Without a doubt, the home mortgage interest deduction is a major perk of home ownership: the mortgage interest you pay on your home reduces your taxable income. The first-year interest payments on a $180,000 30-year fixed rate home loan at 5.01 percent add up to almost $9,000. That’s a lot of interest paid, but it’s also a huge tax deduction.
If you’re getting ready to buy your first home or are a new homeowner, here’s what you need to know—in plain English—about the home mortgage interest deduction.
Who Can Take the Home Mortgage Interest Deduction?
In order to deduct your mortgage interest, you must:
- File Form 1040 and itemize deductions on Schedule A.
- Be legally responsible for the loan. You cannot deduct payments you make for someone else if you are not legally liable to make them. (For example, if you are splitting the mortgage with a live-in partner and the mortgage is only in his/her name, you can’t take the deduction). Also, you cannot deduct interest you’re paying a family member for a home unless you have established a legal debtor-creditor relationship.
- Have a mortgage secured by a qualified home. A qualified home must be your first or second home. The IRS states that “A home includes a house, condominium, cooperative, mobile home, house trailer, boat, or similar property that has sleeping, cooking, and toilet facilities.”
To simplify even further, if you took out a mortgage from a bank in your name to buy your first home, you qualify for the deduction. In other circumstances, check with a tax pro.
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What You Need
Claiming the home mortgage interest deduction is fairly simple. You’ll need:
- Form 1098, Mortgage Interest Statement from your mortgage lenders. They should mail this to you just like your employer mails you a W-2. The mortgage interest statement shows how much you interest you paid during the tax year.
- HUD-1 Settlement Statement (if you bought or sold a home within the tax year). This form usually comes from your escrow company and is used to itemize all the charges paid by both borrower and seller during a real estate transaction.
There are some limitations on the home mortgage interest deduction. You cannot deduct interest on more than $1,000,000 used to purchase your first and/or second home(s). (Or $500,000 if married filing separately). In addition, you cannot deduct interest on more than $100,000 of home equity debt. If you deduct interest paid on home equity debt, it will affect the calculation for paying the Alternative Minimum Tax (AMT), so it is a good idea to understand the tax consequences before borrowing against your home.
If you have a joint mortgage, you can only deduct the interest you actually paid, regardless of who receives the 1098 Mortgage Interest Statement.
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Mortgage points on a home purchase are fully deductible in the tax year in which they are paid (points are interest payments you make up-front, in a lump sum, to reduce your lifetime loan cost). If you pay points on a mortgage refinance, however, you must amortize the deduction over the life of the loan.
Should You Get Help?
Most of the time, taking the home mortgage interest deduction is straightforward. You add up the interest you paid listed on your mortgage interest statement forms and take the deduction. Things get tricky when you buy or sell property or start to carry multiple mortgages.
If you feel like some self-study, all of the rules are available in IRS Publication 936. But in most cases, tax preparation software like TurboTax will calculate your actual deduction for you. Finally, if your situation is more complicated, you might consider talking to a tax professional.