Wednesday, April 29, 2015

Plan Now to Cash In on Homeowner Tax Benefits Next Year

In the rush to file taxes each year, many homeowners are more focused on meeting the deadline than understanding their deductions — especially if it’s their first year as a homeowner.

Now that this year’s tax deadline has passed and you have some time to think, here are some tips on fine-tuning your strategy for next year.

Defining homeowner tax deductions

A tax deduction reduces your taxable income so you pay tax on less income. If you own your primary residence, the IRS allows you to deduct mortgage interest and property taxes you paid throughout the year for which you’re filing.

This deduction happens on Schedule A of your IRS tax returns. You then carry this deduction over to the front of your tax return, which is called Form 1040, and subtract the deduction from your gross income to arrive at a new, lower income, which you’re actually taxed on.

Simply put: Being taxed on income that’s been reduced by deductions means you pay less taxes.

Exactly what can I deduct as a homeowner?

Your property taxes are deducted from your income using line 6 of Schedule A, and this can include all property taxes paid during the filing year.

If your mortgage payments include your real estate taxes, you can deduct only the amount your lender actually paid to your county assessor that year (rather than the amount your lender collected from you to pay taxes).

If you bought the home in the year for which you’re filing, your line 6 deduction can also include any pro-rated property taxes you paid on your final closing statement, so keep that statement in your tax files.

Your mortgage interest is deducted from your income using lines 10 and 11 of Schedule A. Line 10 is to deduct mortgage interest paid to your lender, who will send you a 1098 form showing how much mortgage interest you paid them during the tax year. Think of a 1098 like a W2, but instead of showing how much you made, it shows how much mortgage interest you paid. If you refinanced from one lender to another during the year, you’ll get 1098 forms from each of them, and can deduct interest paid on both.

If you bought the home in the year for which you’re filing, your line 10 deduction can also include any pro-rated mortgage interest, “discount” fees, or “origination” fees you paid on your final closing statement, so keep that statement in your tax files, too.

Line 11 is to deduct mortgage interest paid to a private lender that didn’t issue a 1098. In these cases, the IRS requires you to write that recipient’s identifying number and address on the dotted lines next to line 11. If the recipient is an individual, the identifying number is their social security number. If it’s an entity, it’s their employer identification number.

What does my tax benefit look like after deductions?

Suppose you were a single home buyer earning $90,000 per year and buying a $300,000 home with 20 percent down using a 30-year fixed rate of 3.75 percent.

This would give you a total housing payment of $1,478, which is comprised of $1,111 mortgage payment, $300 property taxes, and $67 insurance. A full year of mortgage interest would be about $9,000, and a full year of property tax would be about $3,600. These two deductions reduce your taxable income by about $12,600.

To quickly calculate your estimated tax savings, you can multiply $12,600 by your estimated tax rate of about 28 percent. The result is $3,528, meaning you’ll pay about this much less in taxes because of your homeowner deductions.

If you convert this to a monthly figure of $294 and subtract it from your total housing payment of $1,478, it reduces your after-tax housing cost to $1,184.

These are only illustrative estimates. You should consult a tax professional for precise figures specific to your situation.

Will mortgage interest deductions be eliminated soon?

Every year, politicians debate the relevance of homeowner tax deductions, and the most recent is a bill introduced in March 2015 to reduce the benefits of the mortgage interest deduction.

There is no timeline for the fate of this bill, and unless the tax code changes, it’s best to focus on current rules for mortgage interest deductions.

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