Believe it or not, there was a time when people didn’t pay income taxes. But the 16th Amendment to the U.S. Constitution and the Revenue Act of 1913 changed that.
As both a taxpayer and a homeowner, you have the added advantage of being able to reduce your taxable income by deducting the mortgage interest you pay via the rules set forth in IRS Publication 936.
In this post, we’ll look at everything you need to know about mortgage interest deductions and whether you qualify for one. Note that this information is for educational purposes only. This is not tax advice—be sure to check with a tax specialist.
What Is Mortgage Interest?
Your monthly mortgage payments consist of two things: a mortgage interest payment and a payment toward your principal balance. Mortgage interest is simply the cost of borrowing money from your lender, and if you qualify, you could list it as a deductible item when filing your taxes. The principal payments, however, are not tax deductible.
What Is My Mortgage Interest?
The easiest way to determine the mortgage interest that you’ll be paying on your home loan is to take a look at Form 1098, which your lender is required to send you each year. Most lenders will send you this form at the beginning of the year before income taxes are due.
If you’d rather not wait until next year, you can simply check your December mortgage statement for the previous year, which will show you the total interest you paid for that month and the total year-to-date interest already paid.
You can also use this amortization calculator. Just provide your loan amount and interest rate to get an estimate of your total interest payments over the life of your loan.
How Does Mortgage Interest Deduction Work?
A tax deduction is any amount that reduces the taxable income that you’re reporting to the IRS, which in turn reduces the amount of taxes that you’re required to pay. When you borrow a loan to buy, build, or remodel your home, the mortgage interest deduction will reduce your taxable income by the amount of interest you pay on that loan.
Example of mortgage interest deduction:
- You paid a total of $25,000 in principal and interest payments for your mortgage in a given year.
- Of those payments, $15,000 was for interest.
- Your taxable income will therefore be reduced by $15,000.
Tip! A tax deduction is not the same as a tax credit, which reduces your total taxes on a dollar-for-dollar basis.
Mortgage Interest Deduction Rules
The IRS has certain rules that you need to meet in order to qualify for the mortgage interest deduction benefit. We’ll cover the most common rules here, but you can read them in full under IRS Publication 936.
1. You Must Itemize Your Deductions
The interest you pay on your mortgage is deductible only if you itemize your deductions instead of using the standard deduction when filing your income taxes.
2. Your Home Must Be Owner Occupied
The mortgage from which you are deducting your interest must be for a primary or secondary home only. Additional homes will not qualify for mortgage interest deductions. Note that your second home cannot be a rental or income property and must be occupied by the owner at least part time.
3. You Must Be on the Title of Your Property
You are not required to be a signer on the mortgage loan, but you must be on the title of your property. In one common scenario, parents who have better credit than their children may help them by cosigning for a mortgage loan. Even if the child makes all of the payments, he or she will not be able to claim the mortgage interest deduction benefit unless his or her name is on the title.
4. Your Home Must Actually Be a Home as Defined by the IRS
To take advantage of the mortgage interest deduction, you must be paying interest on a mortgage for a home as defined by the IRS. Otherwise, it’s considered a personal loan, which is not tax deductible.
A home is any property that has sleeping, cooking, and toilet facilities. Examples of homes as defined by the IRS include:
- Single-family homes/townhomes
- Mobile homes
- Recreational vehicles
Common Types of Loans Available for a Home:
- Mortgage to buy or refinance
- Second mortgage
- Line of credit
- Home equity loan
- Construction loan
What Else Is Tax Deductible from Your Mortgage?
Don’t forget to include other expenses that can add to your tax deduction benefits. These include, but are not limited to:
- Lender fees paid to attain your loan, such as points and origination fees. Check your Loan Estimate statement from your loan documents.
- Property taxes.
- Mortgage insurance (MI). Not all loans have MI, so check with your lender to see if yours does.
Mortgage Expenses That Are NOT Tax Deductible
Not all of your expenses as a homeowner are tax deductible. The following are common costs that many homeowners incur that are unfortunately not tax deductible:
|Homeowners Insurance||HOA Payments|
|Fire Insurance||Credit Report Fees|
|Flood Insurance||Appraisal Fee|
|Title Insurance||Escrow Fees|
What If More Than One Person Owns the Home?
If you own your home with another person who doesn’t file taxes jointly with you, you can only deduct mortgage interest pro rata to what you actually paid. Be sure to coordinate with your co-owner so there is no confusion or errors that may lead you to claim either too little or too much.
The IRS tax rules for mortgage interest deduction were created to help encourage homeownership. As a homeowner, you have a unique opportunity not available to other taxpayers to significantly reduce your personal income tax liabilities:
- Total mortgage interest actually paid can reduce your taxable income and total personal tax burden.
- You can also deduct other mortgage costs, such as lender fees, property taxes, and mortgage insurance.
Again, note that there are specific requirements to qualify, such as having your name on the title of the property and the property itself being owner occupied. Be sure to check with your tax specialist to see if you quality for a mortgage interest deduction.