When it comes to tax time, homeowners are always looking for ways to reduce their tax burden. Luckily, many tax deductions available for homeowners can result in significant savings.
Before discussing the tax breaks for homeowners, it's important to understand the difference between standard and itemized deductions. The standard deduction is a flat amount set by the IRS that all tax filers can use to reduce their taxable income. On the other hand, itemized deductions allow you to reduce your taxable income by the total amount of specific expenses.
It's crucial to note that some home expenses are not deductible, including fire insurance, homeowner's insurance, principal mortgage payments, and more. To avoid any confusion, it is recommended to consult with a tax professional.
Now, let's dive into the 8 tax breaks for homeowners:
Capital Gains
Discount Points
Home Equity Loan Interest
Home Office Expenses
Mortgage Insurance
Mortgage Interest
Necessary Home Improvements
Property Taxes
These tax breaks can greatly reduce your taxable income and help you save money. First, however, it's important to ensure that the total figure of your itemized deductions is larger than the standard deduction. Only then will it be financially beneficial to take advantage of these tax breaks.
Capital Gains
Capital gains tax exemptions become relevant when you sell your property for a profit. The capital gain is calculated as the difference between the value of the home when purchased and its value at the time of sale. For instance, if you bought your home for $100,000 and later sold it for $150,000, your capital gain would be $50,000.
If you have used the house as your primary residence for a minimum of 2 out of the past 5 years, you may be eligible for tax exemptions on a portion of the profits. Married couples who file jointly can keep up to $500,000 of capital gains without incurring any tax liability. On the other hand, single filers or married couples filing separately can each keep up to $250,000 in capital gains tax-free.
It's crucial to remember that the tax exemptions apply only if the house was used as your primary residence for at least 2 of the last 5 years. With such a generous tax break on offer, it's essential to take advantage of this deduction and make informed decisions.
Discount Points
When getting a mortgage, you can buy discount points to lower your interest rate. Each discount point is equal to 1% of the mortgage amount. These points are tax-deductible if purchased to reduce the mortgage's interest rate. However, loan origination points are not deductible as they are fees that don't impact the interest rate.
Home Equity Loan Interest
A home equity loan is a type of loan that uses your home's equity as collateral to borrow funds for other purposes. It functions like a second mortgage. The interest paid on this loan can be deducted if it was used for home improvement purposes. However, prior to the Tax Cuts and Jobs Act (TCJA) of 2017, the interest on home equity loans and lines of credit could be deducted regardless of the usage of funds.
Home Office Expenses
To be eligible for a deduction for maintaining a home office, the IRS mandates that it be used regularly and exclusively for business purposes. Therefore, using the office space occasionally or telecommuting for an employer will not suffice. Therefore, the deduction amount is determined by the portion of your home devoted to business use.
Mortgage Insurance
PMI, short for Private Mortgage Insurance, is an added expense that homeowners need to include in their budget. Its purpose is to protect the lender in case of non-payment of the mortgage.
Note that mortgage insurance payments are tax-deductible when you file an itemized tax return.
Mortgage Interest
Yes, that is correct. The mortgage interest deduction allows homeowners to lower their taxable income by deducting the interest paid on a mortgage of up to $750,000 for single filers or married couples filing jointly and $375,000 for married individuals filing separately. The Tax Cuts and Jobs Act (TCJA) Reduced the limit from $1 million.
Necessary Home Improvements
Home improvement expenses that are deemed necessary may be eligible for tax deductions. However, the term "necessary" has specific limitations, so upgrading a functional kitchen would not qualify. On the other hand, permanent modifications made for medical accessibility, such as installing medical equipment or widening doorways for wheelchair access, should qualify as deductions.
Property Taxes
As a homeowner, you will be subjected to property taxes at the state and local levels. If you are a married couple filing jointly, you are eligible to deduct up to $10,000 of property taxes. In contrast, those who are single or married filing separately can deduct a maximum of $5,000.
The property tax deduction can be quite beneficial depending on your place of residence.
In Summary
Homeownership comes with numerous financial advantages, including potential tax savings. However, as tax season approaches, you must be aware of all your eligible deductions and make the most of them.
To maximize your tax benefits, it's advisable to compare the sum of your standard deduction to the itemized deductions and choose the option that best suits your tax return. If you need assistance, consider seeking the advice of a tax expert to ensure you don't miss out on any deductions.
To better understand the connection between taxes and homeownership, it's worth exploring the effects of property taxes and insurance on mortgage payments.
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