Everyone knows that there are tax benefits to owning a home, yet very few first time home buyers understand the significance of home ownership…for that matter, many move-p buyers don’t really understand the tax benefits of home ownership.
Taxes, of course, are unique to every tax payer. There are many tax laws that are constantly changing. You should not rely on this article as advice or your authority to make any decision regarding real estate and tax planning strategies. What this column offers, is insight for when you meet with your tax professional, you’ll be better equipped to ask the right questions and plan the right strategy that works for you.
As a homeowner, it’s nice to know the most substantial tax benefit will occur upon the sale of your home, assuming it’s for a profit. When you sell, as a married couple, you’ll be able to pocket tax free up to $500,000 in profit from the sale; $250,000 for a single home owner.
If you consider selling just about any other type of investment, you’ll be taxed on every dollar of profit – typically around 15%. The theory behind this exclusion is that most people when they sell one home reinvest the profits into another home.
When you take out a mortgage, you’ll be spending a considerable amount each month on the interest of that loan. The way an amortized loan works is that you’ll be spending more in interest and less on principal during the early years of the loan. This means that most of your payment will be going to interest each month. Most home loan monthly payments are initially more than two-thirds interest – even with a great interest rate the interest on hundreds of thousands of dollars for a home add up very quickly.
Both the Federal and California tax laws allow you to deduct all of the interest you pay on your home loan. There are some details to check out, that may change from year to year, such as the total amount of interest that may be deducted (currently $1,000,000 for married home owners). For most of us, we’ll be able to deduct all of the interest we pay on our home, every year from our federal and state taxes.
For example, if you borrow $300,000 for a home with a 4% interest rate you can expect to pay somewhere around $11,000 your first year toward interest. If you’re in the 25% tax bracket you can then deduct about $2,750 off of your taxes. Wow, $2,750 – that might represent a month or two in rent you’ve been paying!
HOME EQUITY LOANS
A Home Equity Loan, a Line of Credit, a Home Improvement Loan, a Second (or Third) Home loan all have the same benefits as an initial purchase loan. The interest paid is tax deductible.
Discount Points are a fee you may have payed to get the loan you got. A point represents 1% of the loan amount. Many times, a buyer who is planning on staying in the home for a longer time may ‘pay points’ to ‘Buy-Down’ the interest rate on a loan. In other words, using the $300,000 loan example above, you may have initially qualified for a 5% loan but by paying a point in advance ($3,000) you were able to ‘Buy-Down’ or lower your interest to only 4%.
Buying Down a loan is a great strategy if you are planning on staying in the home for an extended period – typically it balances out in less than 5 years. However, if the idea is to resell within a couple of years before moving up, then spending the money to buy-down the loan may not be money well spent. Consult with your REALTOR® and Mortgage Professional to help figure out what is best in your situation.
The good news is that Discount Points are tax deductible just like your mortgage interest. One point could save you and extra $500 or more off of next year’s tax bill.
Property Taxes are the taxes that are paid to your County/State based on the assessed value of your real estate. While there is much to cover in a discussion about Property Taxes, suffice it to say that regardless of where you live you can expect to pay property taxes. In California your taxed based on the assessed value. The rates can vary from city to city and neighborhood to neighborhood, so understand this when you purchase your new home. Rates can be as low as 1% and in some cases as high as 3%.
Using the $300,000 home example, this could be a $3,000 annual property tax bill ($250 a month liability) up to a $9,000 annual property tax bill ($750 a month liability). Property taxes are a tax deduction. Another $3,000 to $9,000 tax deduction is something everyone can appreciate.
Unless you put 20% or more down on a new home, you can expect to pay Mortgage Insurance on your home loan amount.
The good news is the money you spend every year on mortgage insurance will be deductible; although there are income restrictions for this deduction, so again check with your tax professional before you start depending on this added deduction that will average around another $1,000 annually.
Home Improvements add value to your home and also give you the ability to be added to the purchase price of your home for determining capital gains.
Home improvements and repairs are two different things. Replacing a roof, adding a swimming pool, or resurfacing your driveway can all be considered improvements. Fixing a broken window, stopping a leaky faucet or any regular maintenance is not considered a home improvement and is not added to the purchase value of your home.
If you are looking to add value to your home, it’s critical that you have access to all of your receipts. Once again, the advice of your tax professional is important here.
HOME OFFICE DEDUCTION
Depending on your line of work, it may be possible to deduct for a home office off of your taxes. There are some pretty stringent requirements for this deduction and carries a high audit rate among those who do claim it. If your home is your principal place of your business and you meet all of the IRS guidelines, you just may get yourself yet another great tax deduction – all because you own your own home!
Call us today at (951) 296-8887 and get the information you need to make the right decision.
For questions regarding available inventory and/or other real estate matters please contact, Mike@GoTakeAction.com. Mike Mason, Broker/Owner of MASON Real Estate Cal. BRE: 01483044, Board of Director of your Southwest Riverside County Association of Realtors® (SRCAR).