Mortgage Interest Deduction: What You Need to Know
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Paying taxes can be confusing and also not particularly enjoyable. The good news is that there are some situations where your financial burden can be lifted to a certain degree, so you should be aware of them. If you plan to become a homeowner and get a mortgage, you should learn all about the concept of mortgage interest deduction. By using this opportunity, you will have to pay less in taxes in a year.
Is mortgage interest deductible? Can you deduct mortgage interest? What are the steps to take if you are interested in claiming this deduction? In this material, you will find the answer to this and many more questions.
Mortgage Interest Tax Deduction: Basics You Should Know
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How does mortgage interest deduction work? To put it simply, mortgage interest deduction makes it possible for property owners to deduct a certain part of the interest on their home from the income subject to tax. Keep in mind that the deduction is exclusively for the interest paid—not for the down payment or the mortgage principal.
An individual can claim a deduction whether they have chosen a government-backed mortgage (FHA, VA, etc.) or a private loan.
“How much mortgage interest can I deduct on my taxes?” you may ask. This depends on the time you took out a mortgage and also your tax filing status. The mortgage interest deduction comes with specific conditions and a limit. This mortgage interest deduction limit varies based on when you took out your mortgage and your tax filing status.
Is mortgage interest tax deductible in my case? The conditions vary depending on whether it is your main home or second home, as well as other factors. To qualify, your mortgage must be secured by your main or second home. For other properties, mortgage interest is deductible only if the loan proceeds are used for deductible purposes like investment or business expenses.
There are also special MID instances related to mortgage late payment charges, the sale of a home, and mortgage prepayment penalties. To get the most detailed information, look through the entire IRS Publication 936 or hire a specialist to consult you.
Claiming Mortgage Interest Deduction: Step-by-Step Guide
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If you are interested in proceeding with interest deduction, you need to know what steps to take. Here is the main information you should know.
Make sure you have Form 1098
Individuals who paid more than $600 in interest the previous year should receive a free Form 1098 from their lender in the mail. It has to arrive between January and early February of each year. This crucial form details your total interest paid and is also sent to the IRS to ensure your tax return aligns with their records.
Properly take care of all your records
As it was mentioned previously, there are a range of instances when individuals can deduct mortgage interest. For example, if you rented out a part of your home or used mortgage proceeds to invest in a business, it all means that you are qualified for the deduction. The most important part is to keep good records so you can prove that this information is valid. This includes square footage, expenses related to parts of the house, any income derived from renting, and more.
Itemization is crucial
Claiming mortgage interest deduction requires you to fill out Schedule A of Form 1040. As opposed to going the standard deduction route, you will have to complete the process of itemization.
There are two ways you can go about the situation. If you see that itemized deductions are less than your standard deduction, you should simply choose the standard deduction and avoid the hassle of wasting your time. However, if itemized deductions are more than the standard deduction, you should probably itemize and thus save money.
You can use secure specialized tools, such as TurboTax or TaxSlayer, to claim mortgage interest deductions. The apps allow you to take advantage of tax breaks and offer additional features for convenient tax payments.
Consider refinancing
Another step you may want to take if you want to make sure you save more the next year is to refinance your mortgage at a lower rate. By taking this step, you’ll significantly reduce your interest payments. Consider refinancing through Freddie Mac’s ReFi Possible or Fannie Mae’s ReFi Now programs for substantial savings.
Common mistakes
Beware of these common pitfalls when claiming your deduction:
- Claiming a higher sum for the mortgage interest deduction. The current MID loan limit is $750,000;
- Not keeping records of your home-related expenses;
- Claiming deduction for unqualified properties;
- Choosing mortgage interest deduction in cases when standard deduction is more profitable;
- Making mistakes by not being aware of what’s not deductible. This includes homeowner insurance, settlement costs, deposits, down payments, and more.
Impact of Interest Deduction on Your Finances
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The mortgage interest deduction can significantly impact your taxes, often providing more advantages than the standard deduction in certain cases.
Your potential savings are calculated as follows. First and foremost, remember that you can only deduct interest on the initial $750,000 of your home mortgage each year. If the mortgage is taken out jointly by a couple, yet they file separately, the limit is $375,000.
Let’s take a look at this deduction example. If you pay $14,000 on mortgage interest and your income tax rate is 24%, it means that you will be allowed to exclude $14,000 from your liability. To see the exact sum you won’t have to pay, you then need to multiply $14,000 by 24%, which would give you $3,360 in savings.
Conclusion
The answer to the question of “How does mortgage interest deduction work?” is a complex one, as it all depends on your specific situation. In many cases, going for a standard tax deduction is not only easier but also allows you to save more money. However, there are also situations when itemizing is the best solution, so it’s up to you to make a comparison.
If you are confused about numerous conditions and exceptions, consulting a professional may help you better understand the potential savings you can achieve.