Demystifying the Tax Code

Demystifying the Tax Code

Posted by : Admin

Demystifying the Tax Code

Owning a house comes with many benefits, including tax deductions. The Tax Cuts and Jobs Act changed how homeowners and other taxpayers benefit, but there are still ways to lower your taxes by owning a house.

If you purchase a house, it’s essential to understand how your taxes may benefit. Many taxpayers fall under the standard deduction despite paying mortgage interest and property taxes, but here’s how to tell which deduction is best.

What is the Standard Deduction?

The standard deduction is a deduction every taxpayer can take without worrying about specific items. The amount changes annually based on many factors. In 2023, the standard deduction was $13,850 for single filers and $27,700 for married filing jointly couples. In 2024, it increased to $14,600 for single filers and $29,200 for married couples filing jointly.

Anyone can take this deduction regardless of the deductions they can take. However, to take the standard deduction, you forgo any itemized deductions. It is a guaranteed amount you can deduct from your adjusted gross income without proof of any expenses.

When Does it Make Sense to Not Take the Standard Deduction?

Sometimes, however, taking the standard deduction doesn’t make sense. If your itemized deductions exceed the threshold for your filing status, it makes more sense to take the itemized deductions.

While the standard deduction is more accessible because you don’t have to prove any expenses, it may mean paying the IRS more than necessary. To claim itemized deductions, you need supporting documentation, including bills, receipts, and bank statements.

Here are some key factors to consider when determining if you should take the standard deduction:

  • Do you have a mortgage and pay interest?
  • Do you pay real estate taxes?
  • Did you have high out-of-pocket medical expenses?
  • Did you make charitable contributions?

These are just a few of the questions to ask yourself when deciding if the standard or itemized deduction makes more sense.

What Real Estate Deductions Do Homeowners Get?

The most significant itemized deduction most people have pertains to the real estate they own. You can deduct items like mortgage interest, real estate taxes, and origination fees.

Mortgage Interest

Mortgage interest is usually a large part of what taxpayers can deduct. Your mortgage company will issue a 1098 showing the total interest paid for the year. When you make your mortgage payments, the money is split between principal (repaying the amount you borrowed) and interest. It’s the interest you can deduct.

However, you can only deduct the interest paid on your primary or second home. Also, if you borrowed a home equity loan or line of credit, the only  interest you can deduct is on loans used to buy, build, or improve your home.

Real Estate Taxes

The next largest itemized deduction homeowners have is real estate (property) taxes. However, the TCJA limits the deduction to $10,000 per year. This means if you paid $15,000 in property taxes, you can only deduct the first $10,000 paid.

If you pay your property taxes via an escrow account, you can determine the amount of property taxes paid using Form 1098 sent by your lender. If you pay them yourself, you can use a copy of the tax bill you received and a canceled check or other proof of payment.

Origination Fees

Origination points or discount points are essentially prepaid interest and are often deductible in the year you pay them. The same rules apply: You must use the home as your primary or secondary residence and the loan must be used to buy, build, or improve the property.

Other factors you must meet include:

  • Paying points must be standard practice for the area
  • The points paid are an average amount for the area
  • You paid the points in cash at the closing (not wrapped into your loan)
  • The points are a percentage of your loan amount

You may pay origination fees to cover the cost of processing your loan or decide to buy your rate down, paying discount points to get the lower rate.

Are Home Improvements Tax Deductible?

If you borrow money to improve your home, you may be able to deduct the interest paid, but only if you meet specific criteria.

In general, the IRS requires the following conditions for improvements:

  • Increase the home’s value
  • Lengthen the home’s useful life
  • Provide new uses for the home, such as medical adaptions

Other Real Estate Tax Deductions

We’ve covered the basic deductions homeowners can take when owning a property to live in, either as a primary or secondary home. You may sometimes have additional deductions if you use real estate as an investment.

While you must claim the rental income you earn on investment properties, there are opportunities for many write-offs, including:

  • Mortgage interest: While you can’t take the deduction for mortgage interest on an investment property on Schedule A, like a primary residence, you can deduct it as an expense of doing business on Schedule E.
  • Property taxes: Like your primary residence, you’re limited to a $10,000 deduction on property taxes paid, but it’s an expense of doing business and not a direct deduction.
  • Depreciation: This is one of the most significant deductions that cover the expected wear and tear of the property. Residential properties depreciate over 27.5 years.
  • Operating expenses: You may be eligible to write off certain other expenses, like property management, travel to and from the property, and other costs that directly relate to the property.

FAQ

Can I write off my house payment on my taxes?

You cannot write off your entire house payment on your taxes. If you’re eligible for itemized deductions, you can write off the interest paid for the year related to your primary or secondary property.

Can I claim utility bills on my taxes?

Utility bills are not something you can claim on your taxes. The only exception is utility bills paid for rental properties. You may be able to include them as expenses, but not as a direct deduction.

What is considered an itemized deduction?

An itemized deduction is an expense you have adequate proof of paying during the tax year. Common examples include mortgage interest and property taxes. Other non-real estate-related deductions include charitable contributions and medical expenses.

Final Thoughts

Taxes get confusing and expensive! Knowing how much you can deduct from your income is essential to reduce your tax liability. Owning a house is one of the best ways to have enough deductions to exceed the standard deduction. Compare your total interest paid, real estate taxes, and any origination fees paid for the year to the standard deduction to see if you are eligible.