Many homeowners don’t realize it, but owning your own home makes it possible to claim a variety of tax deductions on a yearly basis. These deductions may substantially reduce the total amount you owe when you file your annual federal tax return.
If you’re a homeowner who wants to save money on taxes (and really, who wants to pay more taxes?), or you’re a potential homeowner that wants to learn about the possible tax advantages of homeownership, it’s important to educate yourself on the benefits that you can claim.*
* This does not constitute tax advice. Caliber cannot discuss tax-related items, please consult a tax professional regarding applicability to your specific tax situation.
It’s vital that you organize as many of your home-related expenses as possible, because the more prepared you are, the more likely it is that you’ll be able to capitalize on different income tax deductions or credits that you may qualify for.
The government calculates standard deduction amounts that every taxpayer can choose to take, but it’s up to you to calculate and possibly take advantage of additional deductions that are earmarked specifically for homeowners.
There are several types of tax deductions available to homeowners. While you may not be eligible to claim all types of deductions each year, most homeowners are able to claim one or more of these types of deductions:
More details on how to prepare your tax returns can be found on the IRS website.
One of the most common tax deductions available to homeowners is a mortgage interest deduction. This deduction allows you to calculate the interest you pay on any of your home purchase or renovation loans and deduct the amount from your total taxable income.
A mortgage interest that is paid on rental properties is also considered a tax-deductible expense and gets reported on the 1040 tax form. However, in order to claim these deductions, the homeowner’s mortgage needs to be considered a secured debt.
When you purchase a home, you may need to pay specific fees depending on the length and format of your financing terms. In some cases, these fees are referred to as mortgage points. Mortgage points are equal to 1 percent of the total amount of your loan. When it comes to home mortgages, these points are organized in two different ways – origination and discount points. Origination points come from income generated by the loan originator, and discount points, which are usually fully deductible, come from prepaid interest amounts.
At the end of the year, the government will typically allow you to deduct the full amount of your points from the tax year they were earned. However, in order to deduct any amount of points, you will need to meet certain requirements. If the point cannot be deducted in a particular year, it can still be deducted in future years during the life of the loan.
State and local property taxes can be deducted from federal income taxes and reduce the amount you owe at the end of the year. You can claim tax deductions on all or a portion of these property taxes each year, so long as you choose to itemize your deductions on your tax return.
Home office deductions are another tax deduction claimed by many homeowners. Depending on the type of business you own, these tax deductions can add up significantly and save you a lot of money if you’re able to keep good records of your related expenses. Home office deductions can be claimed by either homeowners or renters, but the space or room designated as the home office must be used regularly and exclusively for business needs.
Home office deductions can be complicated, so the government has created two different ways you can claim the tax credits – simplified or actual expense deductions. With the simplified deduction, you calculate the square footage of your office space and assess a $5 per square foot deduction on your taxes.
When using the actual expense method, you calculate all the expenses you incur, including insurance payments, mortgage interest, home utilities, and real estate taxes separately.
There are some homeowner expenses that can never be claimed as tax-deductible.
Homeowners can claim a federal tax credit for making certain improvements to their homes or installing appliances that are designed to boost energy efficiency. This is known as the Residential Renewable Energy Tax Credit, and solar, wind, geothermal and fuel cell technologies are eligible.
However, these credits will only apply to home modifications made through the end of 2021. When filing your taxes for tax years 2019, 2020 and 2021, make sure to take note of the adjustments that happen year to year.
There are three (3) applicable percentages you can claim:
As you can see, you may be eligible for a percentage of the cost of the alternative energy equipment that's installed on or in your home, including the cost of installation. Solar hot water heaters, solar electric equipment, wind turbines, and fuel cell property are examples of equipment eligible for the tax credit.
This tax credit isn't refundable, but the unused portion can be credited to the following year’s tax return if the credit is more than any tax you owe.
The home must be located in the United States, but it doesn't have to be the taxpayer’s main residence unless the alternative energy equipment is a qualified fuel cell property. In this case, the equipment must be installed in your principal residence. Both existing homes and homes under construction are eligible.
Take note that you cannot claim the residential solar credit for rental properties. For you to be eligible for that tax credit, you must live in that property for part of the year, only using it as a rental when you're away.
To qualify for residential energy tax credits, you must reduce the cost basis of your home by the dollar amount you’re claiming.
What does this mean? Let's say you bought your home for $250,000 and sold it for $300,000. Your cost basis is $250,000. You would have capital gains of $50,000 – the difference between $300,000 and $250,000 – and capital gains are taxable.
Now let's say that you claimed that $4,000 tax credit from your fuel cell earlier on. Because you must subtract this from your cost basis, your capital gain increases to $54,000 – or $300,000 minus $246,000.
If this is all a little confusing to you, you’re not alone – that’s why there are tax professionals to help guide you through it. If you have questions, you can consult the IRS or an accountant. You don’t want to take any chances on your federal tax return, but you also don’t want to miss out on deductions you can legitimately claim.