Mortgage Interest Deduction
One of the most significant tax benefits of homeownership is the mortgage interest deduction. Homeowners can deduct the interest paid on mortgage loans used to buy, build, or improve their primary residence or second home. This deduction can be substantial, especially in the early years of the mortgage when interest payments are higher.
How It Works
- Primary Residence: Interest on loans up to $750,000 (or $1 million for loans taken out before December 15, 2017) can be deducted.
- Second Home: The same limits apply to a second home, provided it is not rented out during the year.
- Home Equity Loans: Interest on home equity loans or lines of credit used to improve the home is also deductible, subject to the same total loan limits.
Property Tax Deduction
Homeowners can also deduct state and local property taxes on their real estate. This deduction is part of the State and Local Taxes (SALT) deduction, including income or sales taxes paid to state and local governments.
Limitations
- The SALT deduction is capped at $10,000 annually for individuals and married couples filing jointly ($5,000 for married couples filing separately). This cap applies to the total property and state and local income or sales taxes.
Capital Gains Exclusion
When you sell your primary residence, you may be eligible for a capital gains exclusion, which allows you to exclude a significant portion of the profit from your taxable income.
Eligibility and Limits
- Primary Residence: To qualify, you must have owned and lived in the home for at least two of the five years before the sale.
- Exclusion Amount: You can exclude up to $250,000 of capital gains if you are single or up to $500,000 if married filing jointly.
- Frequency: This exclusion can be used once every two years.
Depreciation Deduction
Real estate investors and landlords can take advantage of the depreciation deduction, which allows you to deduct the cost of the property over its useful life.
How It Works
- Residential Property: The IRS allows you to depreciate residential rental property over 27.5 years.
- Calculation: You can deduct a portion of the property’s cost basis (excluding land value) each year as a depreciation expense.
- Benefits: Depreciation can offset rental income, reduce your taxable income, and lower your tax bill.
Home Office Deduction
If you use part of your home exclusively for business purposes, you may qualify for the home office deduction. This deduction applies to both homeowners and renters.
Requirements
- Exclusive Use: The space must be used regularly and exclusively for business.
- Principal Place of Business: Your home office must be your principal place of business or where you meet clients or customers.
Simplified Option
- The IRS offers a simplified method for calculating the home office deduction, allowing you to deduct $5 per square foot of home office space, up to 300 square feet.
Points Deduction
When you buy a home, you may pay mortgage points to reduce your interest rate. These points, or discount points, are deductible as mortgage interest.
Deducting Points
- Buying a Home: Points paid on a mortgage for your primary residence are generally fully deductible in the year they are paid.
- Refinancing: Points paid on a refinancing mortgage are typically deducted over the life of the loan.
Energy Efficiency Credits
Homeowners who make energy-efficient home improvements may be eligible for tax credits.
Eligible Improvements
- Examples: Installing solar panels, energy-efficient windows, doors, or HVAC systems.
- Credits: The Residential Energy Efficient Property Credit allows for a percentage of the cost of qualified energy-efficient property to be credited directly against your tax liability.
Conclusion
Real estate ownership provides numerous tax deductions and benefits that can significantly reduce your tax liability and enhance your financial situation. You can maximise the financial advantages of owning property by understanding and utilizing these deductions, such as the mortgage interest deduction, property tax deduction, and capital gains exclusion. Additionally, investors and landlords can benefit from depreciation and home office deductions, further improving their tax outcomes. Consulting with a tax professional can ensure you take full advantage of these benefits and make informed decisions about your real estate investments.