Homeownership comes with several financial benefits, and one of the most significant is the potential for real estate tax deductions. Whether you’re a new homeowner or someone who has owned property for years, understanding how these deductions work can help you save money and reduce your overall tax liability. In this article, we will explore the key real estate tax deductions that homeowners in the U.S. should be aware of.
Mortgage Interest Deduction
The mortgage interest deduction is one of the most valuable tax benefits for homeowners. This allows you to deduct the interest you pay on your mortgage from your taxable income, potentially saving you thousands of dollars each year. The deduction applies to the interest on loans used to purchase, build, or improve your primary or secondary residence.
For loans taken out after December 15, 2017, the deduction is limited to interest on up to $750,000 of mortgage debt for single or married taxpayers filing jointly. For loans taken before this date, the limit is $1 million. It’s important to note that this deduction only applies to interest and not principal payments.
Property Tax Deduction
Another common deduction is the property tax deduction. Homeowners can deduct the amount they pay in property taxes each year, which can add up to significant savings. Property taxes are levied by local governments, and you can typically deduct both state and local taxes on your federal tax return.
However, the SALT (State and Local Tax) deduction has a cap of $10,000 for individuals or $20,000 for married couples filing jointly. This means that if your combined property tax, state income tax, and local taxes exceed these limits, you won’t be able to deduct the full amount.
Home Equity Loan Interest Deduction
Homeowners who take out a home equity loan or home equity line of credit (HELOC) may be able to deduct the interest on the loan, provided the funds are used for qualified home improvements. However, the Tax Cuts and Jobs Act of 2017 made some changes to this deduction. Now, you can only deduct the interest on home equity loans if the money is used to “buy, build, or improve” your primary or secondary home.
For example, if you use the loan to renovate your kitchen or add a new room, you may be eligible to deduct the interest. If the loan is used for other purposes, such as paying off credit card debt or buying a car, the deduction is not allowed.
Points Paid on Your Mortgage
Points, also known as loan origination fees, are charges that homebuyers pay upfront to reduce their mortgage interest rate. These can also be deducted from your taxes. Points are typically equal to 1% of your loan amount, so if you paid $5,000 in points on a $500,000 mortgage, you could deduct that amount from your taxable income.
The deduction for points is typically spread out over the life of the loan, though in some cases, you may be able to deduct the full amount in the year you paid them. This depends on whether the points are considered “prepaid interest” and whether the loan is for your primary residence.
Private Mortgage Insurance (PMI)
Private mortgage insurance (PMI) is typically required if you put down less than 20% on a conventional loan. PMI protects the lender in case you default on the loan, and in the past, you could deduct the cost of PMI premiums on your taxes. However, the Tax Cuts and Jobs Act of 2017 temporarily suspended the PMI deduction, so it’s not currently available unless extended by new legislation.
That being said, if you’re paying PMI and are eligible for other deductions, such as the mortgage interest deduction, you can still potentially lower your overall tax burden.
Energy Efficiency Tax Credits
If you’ve made energy-efficient improvements to your home, you may be eligible for federal tax credits. These credits apply to home improvements that reduce your home’s energy consumption, such as installing solar panels, energy-efficient windows, or a new HVAC system. Unlike deductions, tax credits directly reduce the amount of tax you owe, making them a valuable way to save money.
The Residential Energy Efficient Property Credit provides tax credits for installing renewable energy systems, such as solar, wind, or geothermal energy systems. Homeowners can claim up to 26% of the cost of installation for systems placed in service before 2023. After 2023, the credit amount is set to decrease, so it’s a good idea to take advantage of these credits sooner rather than later.
Conclusion
Understanding real estate tax deductions can significantly reduce your tax liability and make homeownership more affordable. By taking advantage of deductions such as mortgage interest, property taxes, and energy efficiency credits, homeowners can save a substantial amount each year. It’s important to consult with a tax professional to ensure you’re maximizing your deductions and complying with the current tax laws. With the right strategies in place, you can keep more money in your pocket and make the most of your real estate investment.