Don’t Overlook the Tax Deduction for Mortgage Points

Feb 21st 2017
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Planning to buy a new home around year’s end? Try to wrap things up by Dec. 31. The reward for meeting that deadline is a deduction for this year if you have to finance the purchase with a mortgage loan on which you pay “points.”

What are points? They’re additional, upfront fees that are paid in lieu of higher interest rates. When money is scarce, lenders routinely charge points, also known by such designations as “loan origination fees,” “premium fees,” or “loan discount.” One point equals 1 percent of the amount borrowed.

The key to ensuring that points are 100 percent deductible in the year of payment, along with your other home mortgage interest, is that the points must be paid to obtain a specific type of loan. The loan must be for buying, building, or improving your main home (as when you add or remodel a room), as opposed to, say, a second home that you use as a vacation retreat, or property for which you charge rent.

At a loan closing, you’ll likely receive a Uniform Settlement Statement. The statement must clearly identify the amount that the lender charges as points and must calculate the points as a percentage of the loan. Moreover, the charging of points has to conform to an established business practice in your area, and the deduction can’t exceed the number of points generally charged in your area.

An example: On a $400,000 mortgage, two points equals an $8,000 deduction that saves $2,400 if you’re in a total tax bracket (federal, state, and, perhaps, city) of 30 percent.

Refinancing an existing mortgage. Here’s how the IRS reads the law: Generally, points you pay to refinance a mortgage aren’t deductible in full in the year you pay them unless they’re paid in connection with the purchase or improvement of a home. This is true even if the new mortgage is secured by your main home. Translation: Refinancers must write points off in dribs and drabs over the full term of the loan – dividing the points paid by the number of monthly payments to be made over the life of the loan.

For instance, you pay $4,000 in points and will make 360 monthly payments on a 30-year mortgage. Under the IRS approach, your allowable deduction is $11.11 per payment, or a total of $133.32 for 12 payments.

This IRS allocation requirement has been backed up by a 1988 US Tax Court decision, though the 8th Circuit Court of Appeals rejected the allocation rule when points are paid on a long-term mortgage that replaces a short-term loan with a balloon payment.

When refinancing a second time, or if the loan is paid off early, take a deduction in the payoff year for all remaining points not yet deducted.

The IRS knows that ever more refinancers have been succumbing to temptation and claiming their points as if they were fully deductible in a single swipe. The difference isn’t chopped liver: In the case of a 15-year loan for $300,000 and $9,000 in points, a year-of-payment deduction would be $9,000, as opposed to an annual deduction of just $600 taken over the course of the loan.

Seller-paid points. There are other complications when you’re the seller and pay mortgage points to induce the lender to arrange financing for the buyer. You can’t count the points as interest. But as a selling expense, they reduce the amount of any gain you realize from the sale and are deductible by the buyer, who then must do some paperwork. He or she has to subtract the amount paid from the purchase price in computing the home’s basis – the figure used to determine gain or loss on the sale of an asset.

Additionalarticles. A reminder for accountants who would welcome advice on how to alert clients to tactics that trim taxes for this year and even give a head start for next year: Delve into the archive of my articles (more than 160 and counting).

Stay competitive with your fellow accountants who turn to the articles when, say, they correspond with clients or they want to show clients how to nimbly sidestep pitfalls while capitalizing on opportunities to diminish, delay, or deep-six payments of sizable amounts that would otherwise swell IRS coffers.

Also be mindful of the articles when you strive to build name recognition, a goal attainable only by choosing and implementing strategies that set you apart from ferocious competition. Use the articles to prepare talks to audiences, such as business owners, investors, and retirees.

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Rowan Webb
By Rowan Webb
Jun 6th 2017 23:08 EDT

It is often the little things such as deadlines, cutoff period, etc that cause borrowers to miss out on deductions Before getting any loans, borrowers should always pose the right questions to the financial institutions. They can help to inform them of the various deductions or discounts that they will be eligible for. Every penny counts and by missing out on a few details or so could mean several hundreds or even thousands of dollars go to waste from the borrowers' own pockets.

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