HOMEOWNERS - TAX TIPS
Owning your own home remains an area of continuing favorable tax treatment. Numerous special tax privileges are available; however, specific restrictions and limitations also exist.
Under the tax code, each taxpayer is entitled to own one principal residence and one second (or vacation) home. Second homes are discussed separately below. "Homes" in excess of this number generally are not deductible as a home (and can create complex tax situations). Check with us for more specific information.
BUYING YOUR HOME
POINTS Points, also called loan origination fees, are generally deductible as interest when paid to obtain a mortgage upon purchase of a residence. These should be reported to you by the lender on a 1098 form at year-end. Points paid by the seller are also deductible by the buyer, but must be deducted from the tax cost (or basis) of your home. There are limits on the maximum mortgage that is deductible.
CLOSING Other expenses paid at closing usually are not deductible, although there may be exceptions. In any case, you should keep your home purchase documents until after you sell or transfer title to your home.
OWNING YOUR HOME
DEDUCTIONS Property taxes and mortgage interest are usually deductible each year as they are actually paid. Insurance payments are not deductible.
REFINANCING Points paid to refinance a mortgage are not currently deductible, but must be pro-rated over the life of the mortgage. However, if used for home improvements, see below.
IMPROVEMENTS Points paid and interest on loans taken out to make substantial improvements to your home, and that are secured by a mortgage on the property are generally deductible. Improvements for medical purposes may, in some circumstances, be deductible as medical expenses. Home improvements that are capital in nature increase your tax cost (basis) of your home and you should retain receipts for these expenditures.
SECOND MORTGAGES Interest and points on second mortgages, including home equity lines, if secured by a mortgage on your residence, generally are deductible. Certain limitations apply.
HOME OFFICE If you use a portion of your home regularly and exclusively for business purposes, you may be able to deduct costs associated with that portion. Rules remain complex and home offices complicate sale of the residence; check on your particular circumstances.
SALE OF YOUR HOME
AFTER MAY 6, 1997
The new law replaces the old law for sales closed after May 6, 1997 (with certain exceptions).
REPORTING A SALE All home sales must be reported, even if you don't owe taxes. Each home sale is reported in the year of sale and rollovers are generally not permitted. The difference between your tax cost (basis) in your home and the adjusted selling price is the gain on the sale.
EXCLUSION OF GAIN In general, you will pay no tax on the first $500,000 of gain ($250,000 if single) on sales of your principal residence. Various requirements and exceptions exist regarding whether a sale is eligible for this exclusion.
TRANSITION PERIOD If you sell between May 7, 1997 and August 5, 1997 you may generally elect either the old rules or the new rules. There are various restrictions and exceptions.
PRIOR ROLLOVERS If you have rolled over gains on previous sales into your current residence, these must be taken into account in computing the gain on this residence.
INVOLUNTARY CONVERSIONS Gains on sales caused by involuntary conversion (such as a fire or government condemnation) are treated as a sale. Gains in excess of the exclusion amount may be eligible for rollover.
UNDER BOTH OLD AND NEW RULES
Some parts of the law have not changed.
SELLING AT A LOSS Losses on home sales are generally not deductible.
HOME OFFICE If you have taken a home office deduction, a portion of your gain on a home sale (plus all depreciation previously allowable) will probably be taxable and not eligible for the exclusion.
ON OR BEFORE MAY 6, 1997
For sales that closed on or before May 6, 1997, the old rules apply.
HOME SALE In general, sale of your home is taxable unless you qualify for a rollover. To qualify, your next home must cost at least as much as the adjusted sales price of the home you're selling and you must buy and live in the new residence within two years before or after the old residence was sold.
55 AND OLDER If you or your spouse is 55 or older when you sell your home, and you owned and lived in your home for three out of the last five years, you can exclude up to $125,000 of the gain. This exclusion is a once-in-a-lifetime allowance.
YOUR SECOND HOME
Second and vacation homes are subject to a complex set of tax regulations. These depend on the amount of your personal use versus the amount of time the property is rented.
100% PERSONAL USE If you never rent out your vacation home, you can generally deduct the interest and property taxes, the same as on your principal residence. If rented for 14 days or less, the rental use is disregarded. The rental income is tax-free and any expenses related to the rental period are non-deductible.
100% RENTAL USE If there is NO personal use, only rental, it is treated as rental property. Note that personal use includes family members and any rentals at less than fair market rates. You report rental income and can generally deduct all related costs (interest, taxes, repairs, etc.). A profit is taxable and losses may be deductible up to $25,000. Passive loss limitations apply.
MIXED PERSONAL AND RENTAL USE If rental is for more than 14 days and personal use does not exceed the greater of 14 days or 10% of rental days, the property is a rental. Costs are allocated and passive loss limitations apply. If personal use is exceeds the cutoffs above, special vacation home rules apply.
© Copyright 1997 Raymond S. Kulzick. All rights reserved. 971226
This publication provides business, financial planning, and/or tax information to our clients. All material is for general information only and should not be acted upon without seeking appropriate professional assistance.