Three Common Tax Misconceptions about Home Ownership Explained
Posted on January 24th, 2012
One of the benefits of owning a home is the deductions that homeowners can use when filling out their annual tax forms. While there are several tax benefits to owning your own home, some of these benefits are greatly exaggerated and some of them are simply misconceptions that are untrue. Here are some of the more common tax misconceptions and exaggerations that are out there so you can be aware of them.
Misconception #1: The interest that I pay on my mortgage provides me with a tax break.
For the majority of homeowners, the mortgage interest does provide a break on their taxes which you won’t get if you are renting. But in order to take advantage of this break, you have to itemize on your taxes. This means that your combined deductions are calculated to be more than the standard deduction that you would automatically get each year. Most homeowners can itemize because their itemized deductions are greater than their standard deductions, but there are some rare instances when this may not be the case.
One of the times when your standard deductions may be greater than your itemized deductions is if you buy your home near the end of the year. This may be the case because you are only making a few payments on your home for the year which means that the sum of your interest payments will be relatively low. Similarly, if you have lived in your home for many years, you may not benefit from the mortgage interest deduction. The reason for this is because if you have been paying on your home for many years, a larger portion of your payments are likely going toward the principal instead of the interest on your balance. If this is the case, you won’t be benefitting much from the mortgage interest deduction.
Misconception #2: I can deduct any expenses for my home on my tax returns.
This is one of those misconceptions that is not only greatly exaggerated, but it’s simply untrue. Many homeowners think that any expense related to their home – private mortgage insurance, association fees, maintenance expenses and the like – are tax deductible. Some homeowners even think that they can deduct the costs for repairs, upgrades, improvements and other costs related to their home. But if you try to deduct these expenses, there is a good chance you will be getting a letter from the IRS. And if you have miscalculated your deductions, you will be charged interest and penalties along with your higher tax bill.
There are, however, some expenses that you can deduct. For instance, your property taxes are deductible on your federal income tax. In some cases, you can deduct capital improvements provided that they fit within the IRS guidelines. Because of the intricacies and details for these deductions, however, it is always best to consult with a professional before finalizing your annual income tax returns.
Misconception #3: Putting my son’s or daughter’s name on the title of my home is beneficial for tax purposes.
This is a common misconception but it is much more complicated than it seems. This misconception says that parents can put their child’s name on the title of their home in order to get a tax break in case the parents die and the child decides to sell the house. The tax break would be for the child selling the home, but it’s just not that simple.
This idea gives many parents peace of mind about what happens to their home after they pass away. Parents simply want to know that their affairs are in order in case something happens and they don’t want their children to loose the family home or to be burdened by probate matters if it is there only substantial asset. The idea is also that the home is no longer part of the parents’ estate regarding tax purposes if they have put their child’s name on it. While this sounds good, it can create several other types of tax problems for the children and even for the parents.
The IRS doesn’t allow for parents to simply give their children the home that they own without any tax ramifications regardless of if the parents are alive or deceased. Even if you sell it to your children for a bargain price while you are still alive, the IRS is going to base your tax responsibility on the difference between the selling price of the home and the actual selling price. While you are allowed to give up to a $13,000 gift annually to any individual without tax consequences, you can’t easily go above that annual exemption without prompting the IRS’s scrutiny. In other words, should you transfer your home to your children or sell it to a child for less than an amount within $13,000 of the appraised value, you may be required to pay a significant amount in gift taxes (and your child or children may also face adverse tax consequences).
Because of the complications and details associated with transferring your home or any other significant assets to your children, it is always best to utilize the services of a qualified estate planner or estate attorney to make sure your interests and the financial interests of your children are protected. Such a professional may be able to put in place legal documentation which gives you the protection that you desire for your children without prompting tax consequences that could turn out to be extraordinary.
There are many benefits to owning your own home. Some of those benefits include tax deductions. But if you are unsure about what you can and cannot deduct, you should always consult with a qualified accountant or tax professional. You should also do some calculations to make sure each deduction is the best possible avenue to take financially. With some help from professionals, you can make the best decisions for yourself and your family’s finances.
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