Homeowners Tax Breaks

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Congress has bestowed a wealth of tax breaks on homeowners, but in a way that resembles the Winchester Mystery House.

Whether you are a first-time or longtime homeowner, figuring out what you can and cannot deduct can be perplexing, especially because the laws change from year to year.

Deductible: For most homeowners, these expenses are deductible on Schedule A, itemized deductions.

  • Mortgage interest. You can deduct the interest paid on up to $1 million in mortgage debt on your primary home and one additional residence. This includes home-equity debt that was used to substantially improve your home. Remember the $1 million limit ($500,000 if married filing separately) applies to your debt, not the interest on that debt.
  • Home-equity debt. For regular income tax, you can also deduct interest on up to $100,000 in home-equity debt, no matter how it was used. But you can not deduct interest on more than $100,000 in home-equity debt that was not used to improve the home.

Suppose you have a $500,000 mortgage and take out a $250,000 home-equity loan. You use $100,000 of the home-equity loan to add a master suite and the other $150,000 to buy a car and pay off credit cards.

Interest on the $100,000 that went into the master suite is deductible because, when added to your $500,000 mortgage, it is still less than $1 million. Of the remaining $150,000, you can only deduct interest on $100,000.

If you are subject to alternative minimum tax, you can not deduct interest on home-equity debt that was not used to buy, build or improve a home.

  • Points. When you buy or build your main home, you can deduct all of the points paid on your mortgage, as long they are labeled as points on the settlement and meet five other criteria found in Publications 936 or 530.

When you refinance a mortgage, you must deduct the points you paid gradually, over the life of the loan. When you pay off this loan, you can deduct any remaining points in that year. However, if you refinance with the same lender, you add points paid on the new loan to the remaining points on the old loan and deduct that amount over the life of the loan.

  • Mortgage insurance. Through 2011, you can deduct mortgage insurance premiums, but only if the mortgage insurance contract was issued on or after Jan. 1, 2007.
  • Property tax. Property taxes are generally deductible, unless you are subject to AMT, in which case you generally lose the deduction.

In 2008 and 2009 only, homeowners could deduct up to $500 in property taxes ($1,000 for joint filers) even if they did not itemize deductions, but this deduction is not available for 2010. Now they are only deductible on Schedule A, according to Mark Luscombe, principal federal tax analyst with CCH.

Not deductible: Most household expenses are not deductible, including homeowner association dues, homeowners insurance and utilities.

Except for points, most closing costs are not deductible, although some can be added to your cost basis.

Improvements to your home are not deductible, although you can usually add them to your cost basis.

Cost basis includes what you paid for the home, plus improvements, plus any untaxed profits rolled over from the sale of a home before May 7, 1997 (or in some cases Aug. 5, 1997). When you sell your home, you will subtract your cost basis from your sales proceeds to determine your capital gain. You will pay no tax on your first $250,000 in gains ($500,000 if married). Anything over that amount is subject to capital gains tax.

Tax credits: Some homeowners might be eligible for certain tax credits, which reduce your tax bill dollar for dollar.

Energy credits. If you installed certain energy-efficient fixtures and systems by Dec. 31, you may claim a 30 percent tax credit – up to a maximum of $1,500, according to CCH. This applies to qualified insulation, windows and doors, heat pumps, furnaces, central air conditioners and water pumps.

A separate 30 percent credit is available to homeowners who installed alternative energy equipment such as fuel cells, solar water heaters, solar electric equipment, small wind energy property and geothermal heat pumps.

  • Federal home buyer credit. Some first-time home buyers who entered into a contract before May 1, 2010, and purchased a home before Oct. 1, 2010, may qualify for a federal tax credit worth up to $8,000. The credit is refundable, which means you can get the full $8,000 even if you owe less than $8,000 in federal income tax.

If you are claiming this credit, you cannot file your return electronically, you must mail it in along with supporting documents, Luscombe says.

  • California home-buyer credits. If you bought a home in California in 2010, you might have qualified for the first-time-home-buyer or new-home-buyer tax credit. Both credits are worth up to $10,000, spread evenly over three years. The credits are not refundable, which means they cannot reduce your tax below zero. If your tax bill before the credit is less than $3,333 for 2010, you can not carry the unused part of the credit forward; you will forfeit it.

To take either of these credits on your 2010 return, you must have received a certificate of allocation from the Franchise Tax Board.

Claim these credits on line 43 or 44 of your California tax return, Form 540. Use credit code 221 for the new-home credit or 222 for first-time-buyer credit.

Some people who bought a brand-new home in 2009 qualified for a different home-buyer tax credit, also worth up to $10,000 spread over three years. If you qualified, remember to take one-third of the credit on your 2010 return. It also goes on line 43 or 44, with credit code 219.

Read more: http://www.sfgate.com/cgi-bin/article.cgi?f=/c/a/2011/04/06/BUC31IRCE0.DTL&ao=2#ixzz1IyDlOc9w

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