In tax lingo, your principal residence is the place where you legally reside. It's typically the place where you spend most of your time, but several other factors are also relevant in determining your principal residence. Many of the tax benefits associated with home ownership apply mainly to your principal residence — different rules apply to second homes and investment properties. Here's what you need to know to make owning a home really pay off at tax time.
Deducting mortgage interest
One of the most important tax benefits that comes with owning a home is the fact that you may be able to deduct any mortgage interest that you pay. If you itemize deductions on Schedule A of your federal income tax return, you can generally deduct the interest that you pay on debt resulting from a loan used to buy, build, or improve your home, provided that the loan is secured by your home. In tax terms, this is referred to as "home acquisition debt." You're able to deduct home acquisition debt on a second home as well as your main home (note, however, that when it comes to second homes, special rules apply if you rent the home out for part of the year).
For mortgage debt incurred prior to December 16, 2017, up to $1 million of home acquisition debt ($500,000 if you're married and file separately) qualifies for the interest deduction. If your mortgage loan exceeds $1 million, some of the interest that you pay on the loan may not be deductible.
For mortgage debt incurred after December 15, 2017, up to $750,000 of home acquisition debt ($375,000 if you're married and file separately) qualifies for the interest deduction. If your mortgage loan exceeds $750,000, some of the interest that you pay on the loan may not be deductible.
A deduction is no longer allowed for interest on home equity indebtedness. Home equity used to substantially improve your home is not treated as home equity indebtedness and can still qualify for the interest deduction.
For more information, see IRS Publication 936.
You can generally treat amounts you paid during 2021 for qualified mortgage insurance as home mortgage interest, provided that the insurance was associated with home acquisition debt and was being paid on an insurance contract issued after 2006. Qualified mortgage insurance is mortgage insurance provided by the Department of Veterans Affairs, the Federal Housing Administration, the Rural Housing Service, and qualified private mortgage insurance (PMI) providers. The deduction is phased out, though, if your adjusted gross income was more than $100,000 ($50,000 if married filing separately).
Starting in 2022, amounts paid for qualified mortgage insurance are generally not deductible.
Deducting real estate property taxes
If you itemize deductions on Schedule A, you can also generally deduct real estate taxes that you've paid on your property in the year that they're paid to the taxing authority. However, for 2018 to 2025, individuals are able to claim an itemized deduction of up to only $10,000 ($5,000 for married filing separately) for state and local property taxes and state and local income taxes (or sales taxes in lieu of income taxes). Previously, there were no dollar limits.
If you pay your real estate taxes through an escrow account, you can only deduct the real estate taxes actually paid by your lender from the escrow account during the year. Only the legal property owner can deduct real estate taxes. You cannot deduct homeowner association assessments, since they are not imposed by a state or local government.
Tax treatment of home improvements and repairs
Home improvements and repairs are generally nondeductible. Improvements, though, can increase the tax basis of your home (which in turn can lower your tax bite when you sell your home). Improvements add value to your home, prolong its life, or adapt it to a new use. For example, the installation of a deck, a built-in swimming pool, or a second bathroom would be considered an improvement. In contrast, a repair simply keeps your home in good operating condition. Regular repairs and maintenance (e.g., repainting your house and fixing your gutters) are not considered improvements and are not included in the tax basis of your home. However, if repairs are performed as part of an extensive remodeling of your home, the entire job may be considered an improvement.
Consult a tax professional for details.
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