The 11th hour is upon us, and many homeowners have not yet made it to their tax preparer. Some may call it procrastination; others call it fear of the unknown.
This is where real estate agents come into play — especially agents who represented newer homeowners and recent sellers. While you may not be a tax professional, you are a conduit through which information you know is passed on to prospective homebuyers unaware of the potential tax benefits of homeownership.
Here’s a rundown of the important deductions and other homeowner tax issues you’ll want to put on your clients’ radar:
Mortgage interest deduction (MID): Buyers will likely have at least some knowledge of the MID, but be sure they know in most cases they may deduct all interest paid in 2014 on mortgages up to $1.1 million ($550,000 for single filers) secured by their principal and any second residence combined. Late payment charges and prepayment penalties are also deductible as mortgage interest. This includes interest paid on property improvement bonds.
Mortgage insurance: Mortgage insurance premiums (MIPs) paid on government-backed mortgages and private mortgage insurance (PMI) is deductible in the same way as mortgage interest, with exceptions. See Internal Revenue Service (IRS) Publication 936 for more on those exceptions.
Local property tax deductions: Property taxes paid in 2014 to the county tax collector are deductible from the homeowner’s adjusted gross income (AGI) used to set their standard taxable income (not alternative minimum taxable income). However, other payments made to the county tax agency which are not ad valorem property taxes may not be deducted, such as:
- improvement district assessments; and
- solar bond payments.
Points and prepaid interest: Charges paid to obtain a mortgage for a home purchase or to fund new improvements in the form of points are deductible in the year they are paid. Since points are considered prepaid interest, points paid on mortgages not used to purchase or improve the buyer’s primary residence are not fully deducted in the year paid. Rather, they are deducted fractionally based on the term of the mortgage in years (i.e., for a 30-year mortgage, 1/30th of points paid may be deducted each year).
However, numerous exceptions exist to this rule. If the points were paid to obtain a mortgage to fund the purchase or improvement of the buyer’s principal residence, and are clearly identified as points on the settlement statement, the buyer may deduct the entire amount of points paid in that tax year. Refer your buyer to this flowchart to help them determine if this exception applies to them.
Loss on sale of personal residence: Be sure your seller knows that if they sold their home at a loss, that loss is personal and not tax deductible. Thus, they do not pay any tax on the sales proceeds they did receive. See IRS Publication 523 for more on reporting and figuring gains or losses from the sale of a personal residence.
Home office deduction: If your client operates a business out of their home, they may qualify to deduct the value of the portion of the home used for business purposes from their taxable income (as is allowed for real estate agents). To qualify for the deduction, a portion of the home needs to be regularly and exclusively used for conducting business. The client may also qualify if they use a portion of their home as a child or adult daycare facility, although the computation method for determining the deduction is different from a home office. Refer clients to IRS Publication 587 for more information on home office deductions.
Green energy tax credit: If your client installs a renewable energy system on their residential property, they may be eligible for a deduction of up to 30% of the cost of purchasing and installing the system in the year of installation. Qualifying technologies include:
- solar electricity generation or solar water heating;
- hydrogen or other electrochemical fuel cell systems;
- small-scale wind generation; and
- geothermal heat pumps.
Deductible moving expenses: If your client moved more than 50 miles for a job opportunity, they may be eligible to deduct the cost of their moving expenses from their taxable income. Refer them to IRS Publication 521 for information on what expenses are deductible and what’s required to qualify.
Renovation or demolition salvage: If your client renovated or demolished all or part of their home and donated salvaged construction material or demolition waste to a qualified charity, they may write off the value of the donated material. If the contribution is valued at more than $5,000, it needs to be appraised by a qualified appraiser.
Improvements added to basis: The cost of additions and value-adding improvements made to a client’s home are not tax-deductible. However, the amount paid for the additions or improvements are added to the owner’s cost basis in the home. This reduces the amount of capital gains tax owed when the home is sold later for a higher price. Refer clients to IRS Publication 523 for examples of qualifying improvements.
Withholding credit for investors: If your client purchased or sold an income property and 3.33% was withheld for California profit tax in 2014, advise them to ensure escrow files the appropriate tax forms to receive credit for their withholding. California’s Franchise Tax Board (FTB) has more on this topic.
Relief of indebtedness income: At nearly the stroke of midnight in 2014, Congress acted to extend the Mortgage Forgiveness Debt Relief act to cover short sales, foreclosure sales and cramdowns through the end of 2014. If your seller had debt discharged in this manner in 2014, they are eligible to exclude this principal discount from their taxable income, with the exception of cash-out refinancing. Advise your client that the exemption is not automatic — it is their burden to claim this income as exempt debt cancellation. Refer clients to IRS Publication 4681 for more.