Homeowners

Homeowners have been on a wild ride the past year or so, with foreclosures, falling home values, and a variety of new tax laws. How can you get the maximum financial benefit from your home?

When Buying A Home

What can you do to ensure your “Dream Home” is not the next one on the lender’s foreclosure list?

Use the lender’s general rules when determining whether you can afford a particular home. One: Do not purchase a home valued at more than 21/2 times your annual income. Two: Assume you can afford to pay no more than 28% of your income on your mortgage’s principle, interest, property taxes and insurance combined. Three: Make sure your total debt is not more than 36% of your income.

Tax Saver Tip: Never sign up for a mortgage you don’t understand. Negative amortization mortgages and variable rate mortgages may be good for some, but are often the cause of financial hardship.

Tax Saver Tip: Negotiate. Many lender fees are negotiable, even the rate of interest.

What Is Deductible

The deductibility of homeowner expenses is a significant area of tax savings.

Mortgage Loan Interest – Interest on your main home and a second home are generally deductible as an itemized deduction. The qualified loan(s) can be first and second mortgages, home improvement loans or a home equity loan.

Mortgage Costs – Costs paid in advance as “points” and loan origination fees at closing are deductible. Deductible “points” are paid for you by the seller at closing when you buy your home.

Tax Saver Tip: You must lower the base price of the home by seller paid points to compute the capital gain on the home when you sell.

Refinancing “Points” – Points paid during refinancing can be deductible, but must be spread out in equal amounts over the life of the new loan.

Real Estate Taxes – Property taxes paid on your main and second homes are deductible as an itemized deduction.

Assessments for maintenance or repair

Mortgage loan insurance premiums for new policies taken out in 2007 – Premiums you pay for “qualified mortgage insurance” in connection with home acquisition debt are deductible as an itemized deduction. Other limits and qualifications apply.

What Isn’t Deductible

Lender imposed closing charges – Charges related to the mortgage loan but not loan interest are generally not deductible. These include appraisal fees, notary fees, preparation and loan registration fees.

Seller paid “points” – The seller may not deduct “points” paid on behalf of the buyer.

Homeowners insurance – These insurance premiums are not deductible even if the payments are escrowed as part of your monthly loan payment.

State and community charges – Charges for services such as water and sewer.

Assessments that improve your property – State and local assessments such as sidewalks are generally not deductible.

Pre 2007 Home mortgage insurance premiums

When You Sell

When you sell your home you may be able to exclude up to $500,000 (married couples) or $250,000 (single person) of your gain when selling your house. This tax-free gain can be used once every two years for your primary residence. To compute the gain you must subtract your home basis (the purchase price of your home plus any home improvements) from the adjusted selling price. When computing this gain you must also account for any gain rollovers from prior home sales under the old tax law.

To qualify for the gain exclusion you must also meet a two-year out of the last five residency requirement. But even this qualification has some exceptions if you were required to move due to a change in job or other unforeseen circumstances.

Tax Saver Tip: Use the home gain tax exclusion as a tax planning idea if you are willing to move.

Home Improvements

Should you track them?

All qualified home improvements can be added to your home’s value to reduce the possible gain. The need to track home improvements has diminished with the ability to exclude from tax up to $500,000 of the gain when you sell your home. However, it is recommended you keep good records if:

• You have a home office
• Your house is located in a high demand are
• You plan to stay in your home for a long time
• The tax laws change
• You rent out your house
• You make major improvements
• Your home is no longer your primary residence

What is an improvement?

Home improvements add to your home’s value (basis), like: adding a room, finishing an unfinished basement, adding a new roof, or paving your driveway. Home repair/maintenance items do not add to your home’s value (painting, wallpapering, etc). However, these expenses can be used as an improvement if done in conjunction with a remodeling project.

Home Office

A home office deduction is available to you if:

• It is the principal place for your business
• It is where your patients, clients, or customers meet with you in the normal course of business.
• It is an area of the home that is used exclusively and on a regular basis for business
• It is used as a convenience to your employer
• You are using an area in your home as the sole place for storing products used in your business
• You use a place in your home to conduct the administrative or management activities of your trade or business, provided there is no other fixed location for such activities
• You are limited to home office deductions equal to but not greater than the gross income of the business less non-home-use business activity expenses. The allocation of the home use expenses on a proportionate share cannot create or increase a net loss in the business.
• Vacation Home Rental

Your vacation home is another potential source for tax savings. Briefly, the rules are:

• If you do not rent out your vacation home you can deduct mortgage interest and real estate taxes.
• If you rent out your vacation home for 14 days or less you can deduct the mortgage interest and the real estate taxes. The rental income is tax-free.
• If you rent out the home 100% of the time and there is no personal use, generally you may deduct interest, taxes, all operating expenses, depreciation and rental losses up to $25,000.
• If you rent out your vacation home for more than 14 days, the rules regarding personal use and what you can deduct are very complex.

Foreclosure

With uncertainty in the housing market and the dramatic increase in foreclosures, what can you do if you are worried about this happening to you?

Talk to the lender. Often the lender will develop a work out program. They may defer the upcoming bump in your variable loan interest rate or develop an alternative payment schedule.
Convert your exotic mortgage to a conventional mortgage before trouble hits.
Look for new tax legislation. There are pending provisions in Congress to give tax breaks to those being foreclosed upon.

If you must go through a foreclosure be careful. If the debt wiped out exceeds your home’s value the excess can be seen by the IRS as taxable income. If this happens to you make sure to call for a consultation as the IRS now has debt forgiveness programs.