If you’re looking for a way to save money on your annual income taxes, you might consider how you can use federal tax deductions to your advantage. There are several tax deductions you can claim, including those for charitable donations and mortgage interest. These deductions are designed to offset certain costs you incurred over the year, including some refinancing costs.
If you’re wondering if refinancing costs are tax-deductible, you’re in the right place. In this article, we’ll cover how the 2017 Tax Cuts and Jobs Act changed how mortgage and refinance deductions work, and we’ll go over some tips to help you make the most out of the deductions you qualify for on your 2019 tax return.
How Does A Tax Deduction Work?
A tax deduction is an opportunity for taxpayers to indirectly reduce their tax bill by lowering their taxable income. There are two ways taxpayers can save with tax deductions:
- Standard deduction: A predetermined amount that eligible taxpayers can subtract from their taxable income.
- Itemized deductions: A list of deductions with differing values that eligible taxpayers can claim.
If you can claim multiple itemized deductions, the overall value of these deductions might outweigh the benefit of the standard deduction. However, the majority of taxpayers find that the standard deduction is the option with the most pay-off.
In 2019, the standard deduction raised to $12,200 for single filers and $24,400 for filers who are married and filing jointly. But in exchange for a higher standard deduction, the Tax Cuts and Jobs Act eliminated some tax deductions for homeowners and lessened the value of others. The reform placed additional restrictions on the mortgage interest deduction and removed the insurance deduction for most mortgage loans.
Mortgage Refinance Deductions
Are mortgage refinance costs deductible? It depends. In this section, we’ll discuss the different mortgage refinance deductions that are available in 2019, show you how to claim them, and cover the limitations of each.
If you received a cash-out refinance for your mortgage and collected cash from the difference between your home’s value and your mortgage, you’ll be glad to know that this income is not considered taxable by the IRS.
The mortgage interest deduction is one of the most common itemized deductions available to federal taxpayers. This deduction subtracts a certain amount of interest paid on your mortgage during a given tax year. You can claim this deduction if you meet the following criteria:
- The mortgage is for your primary residence or a second home that is not used as a rental property
- The lender is using your home as loan collateral
- You itemize your tax return
You can only claim the interest that you paid within that tax year, up to $750,000 for single or married filing jointly and $375,000 for each married filing jointly.
If you opt for a cash-out refinance, the qualifications are a little different. You can deduct the interest on your original loan no matter how much equity you’ve taken out on your home. However, this is only permitted if the money is used to make improvements that increase the value of your home. Examples of eligible improvements can include:
- Installing a swimming pool, spa, or jacuzzi
- Replacing your roof
- Adding on a bedroom or home office
- Upgrading a manual garage door to a remote-controlled one
- Adding a home security system
- Installing heating and air
- Upgrading windows
Keep in mind; these renovations must be permanent to be considered capital improvements.
If you purchase discount points or mortgage points to reduce your interest rate, you can deduct 100% of these costs. You can also deduct discount points on regular and cash-out refinances.
Closing Costs On A Rental Property
Closing costs and settlement fees are not deductible on a primary or secondary home, but the rules for rental properties are different. Why? The IRS considers rental income taxable on your annual return. This gives you more flexibility to claim deductions for rental property expenses.
The following rental property expenses that are deductible include:
- Legal fees
- State-mandated inspection costs
- Refinancing application fees
- Appraisal fees
- Insurance expenses
- Repair costs
How Long Are Refinancing Costs Deductible?
It depends! Each deduction has its own criteria, let’s take a look at each.
Most closing costs can be deducted over the lifetime of your refinanced terms. If you refinance your mortgage to a term that’s 15 years, you can make deductions over the lifetime of that loan.
As long as you meet the criteria for the mortgage interest deduction, you can claim it each year that you pay interest on your loan. Each year, you can claim up to $750,000 for single or married filing jointly and $375,000 for each married filing jointly, but you can only deduct interest that you paid that year.
At the beginning of the year, your lender will provide you with form (1098) which will reflect how much money you paid in interest over the tax year. You’ll use this form to help you claim the deduction on your 1040.
Discount Points And Closing Costs
If you bought discount points the closing year that you refinanced, you cannot deduct the total amount that you paid for the points. Instead, you’ll need to spread out the deductions over the lifetime of your loan. This deduction can be claimed each year until it has reached maturity.
Note: Tax laws are subject to change annually, so it’s important to refer to the year’s most updated tax regulations.
Restrictions On Refinancing Deductions
The IRS’s objective is to collect taxes owed to the federal government, so these deductions obviously come with some limitations. In order to qualify for most of the tax deductions listed above, you must itemize your deductions rather than take the standard deduction.
To save the most money on your annual tax return, you’ll want to choose the deduction method that’s most valuable to you. The 2019 standard deduction is:
- $12,200 for single filers
- $24,400 for married couples filing jointly
- Are refinancing costs tax-deductible? Certain refinancing and mortgage costs are deductible. This includes:
- Mortgage interest
- Discount points
- Closing costs on rental properties
- Each of these deductions has its own restrictions and eligibility requirements.
- To claim these deductions, you must choose to itemize your deductions instead of claiming the standard deduction.