Owning a home can provide more than a place to live. For eligible homeowners, certain expenses associated with owning and improving a property may provide tax deductions for homeowners or qualify for tax credits. These tax benefits can potentially reduce taxable income or directly reduce the amount of tax owed.
However, not every home-related expense is deductible. Tax rules depend on factors such as how the property is used, whether you itemize deductions, the type of expense, and applicable federal and state laws. Understanding the rules can help homeowners identify potentially valuable tax benefits while avoiding unsupported deductions.
Mortgage Interest Deduction
One of the most commonly discussed homeowner tax benefits is the mortgage interest deduction. Eligible homeowners who itemize deductions may be able to deduct qualifying interest paid on mortgage debt used to buy, build, or substantially improve a home.
The rules can depend on when the mortgage originated, the amount of debt, and whether the loan meets applicable requirements.
Homeowners should review their mortgage interest statement and other tax documents when preparing their tax return. The amount of interest paid during the year may be reported by the mortgage lender.
It is important to distinguish mortgage interest from principal payments. Generally, paying down the principal balance of a personal mortgage does not create the same deduction as qualifying mortgage interest.
Property Tax Deduction
Property taxes may also be deductible for eligible homeowners who itemize their federal tax deductions, subject to applicable limitations.
The federal deduction for state and local taxes, commonly known as the SALT deduction, can include qualifying real estate taxes. However, federal limits and rules can change, so homeowners should check the rules applicable to the specific tax year.
Property taxes paid through an escrow account may also appear on mortgage or tax statements, but homeowners should verify the actual amount paid during the relevant year.
Home Office Tax Deduction
People who operate a qualifying business from home may be able to claim a home office deduction if they meet the applicable requirements.
A home office generally must satisfy specific rules concerning how the space is used. For example, the area may need to be used regularly and exclusively for qualifying business purposes.
Employees working remotely for an employer generally face different rules and may not automatically qualify for the federal home office deduction simply because they work from home.
Self-employed individuals and eligible business owners should keep records showing the business use of the property and the expenses associated with the qualifying space.
Energy-Efficient Home Improvements
Homeowners may also receive federal tax credits for certain qualifying energy-efficient improvements. Depending on the applicable tax year and current law, qualifying improvements can include certain energy-efficient equipment, insulation, windows, doors, heat pumps, and other upgrades.
Tax credits are different from deductions. A deduction generally reduces taxable income, while a credit can directly reduce tax liability.
Because energy-related tax incentives can have specific eligibility requirements, product standards, installation requirements, annual limits, and expiration dates, homeowners should verify the rules for the year in which the improvement was made.
Keep receipts, invoices, manufacturer certifications, and other required documentation.
Mortgage Points
Some homeowners pay mortgage points, also known as discount points, when obtaining a home loan. Under certain circumstances, points paid on a mortgage used to buy or improve a primary residence may be deductible as mortgage interest.
The rules are detailed, and the treatment can differ depending on whether the points qualify for immediate deduction or must be deducted over the life of the mortgage.
Homeowners should retain their closing documents because they may contain information needed to determine how points should be treated for tax purposes.
Also Read: Whole Life Insurance Cash Value
Home Improvements vs. Repairs
A common mistake is assuming that every expense spent on a house is immediately deductible.
Routine repairs and maintenance to a personal residence generally do not automatically qualify as federal itemized deductions. However, certain improvements may affect the property’s tax basis.
Examples of improvements can include additions, major renovations, or installations that increase the property’s value, prolong its useful life, or adapt it to a new use.
Keeping records of qualifying improvements can become important when the home is eventually sold because the property’s adjusted basis can affect the calculation of a taxable gain.
Selling Your Home
Homeowners may qualify for an exclusion of some capital gain when selling a primary residence if they meet applicable ownership and use requirements.
Under federal rules, qualifying taxpayers may potentially exclude up to a specified amount of gain from the sale of a main home, with different maximum amounts generally applying depending on filing status and eligibility.
This is not technically a homeowner deduction, but it is an important tax benefit associated with homeownership.
Special rules can apply when a property was rented, used for business, inherited, or owned for a relatively short period.
Rental Property Tax Benefits
Tax treatment can be different when a homeowner rents out part or all of a property.
Rental property owners may generally deduct certain ordinary and necessary expenses associated with operating the rental, subject to applicable rules. Potential expenses can include certain repairs, insurance, property taxes, mortgage interest, management expenses, and depreciation.
However, rental income must generally be reported, and special passive activity and depreciation rules may apply.
Homeowners who rent out a room or property should maintain separate and accurate records of rental income and expenses.
Keep Detailed Homeownership Records
Good recordkeeping is one of the most important parts of claiming legitimate homeowner tax benefits.
Consider keeping records of:
- Mortgage interest statements
- Property tax payments
- Closing documents
- Mortgage points
- Home improvement invoices
- Energy-efficiency documentation
- Home office expenses
- Insurance records
- Rental income and expenses
- Records related to the purchase and sale of the property
These documents can help establish eligibility and support calculations if questions arise later.
Itemized Deductions vs. Standard Deduction
Many homeowner-related federal deductions are available only when a taxpayer itemizes deductions rather than claiming the standard deduction.
Homeowners should compare the total value of their potentially deductible expenses with the standard deduction available for their filing status and tax year.
Having a mortgage does not automatically mean itemizing will produce a larger tax benefit. The right approach depends on the taxpayer’s overall financial and tax situation.
Common Mistakes Homeowners Should Avoid
One mistake is assuming every expense related to owning a home is deductible. Personal expenses generally do not become deductible simply because they involve a residence.
Another mistake is failing to keep documentation. Receipts and closing statements can be especially important for improvements, points, and energy-related incentives.
Homeowners should also avoid relying on outdated tax information. Federal tax provisions, deduction limits, credits, and eligibility requirements can change from one tax year to another.
Final Thoughts
Tax deductions for homeowners can potentially reduce taxable income and make certain costs of owning a home more manageable. Mortgage interest and qualifying property taxes are among the most commonly considered deductions, while eligible homeowners may also benefit from home office rules, energy incentives, mortgage points, and tax treatment related to selling a primary residence.
The tax treatment of a particular expense depends on the homeowner’s circumstances and the tax year involved. Keeping detailed records and understanding the difference between deductions, credits, and adjustments to basis can help homeowners make more informed decisions.
For complicated situations involving rental property, business use, major renovations, or the sale of a home, consulting a qualified tax professional can help ensure the applicable rules are properly considered.
