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Closing Costs That Are (and Aren’t) Tax-Deductible

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Most people who buy or refinance a home pay closing costs. You might wonder: “Are closing costs tax-deductible?” The answer: It depends. Some of these costs can count as tax deductions for homeowners if you itemize your tax bill.

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What does ‘tax-deductible’ mean?

If an expense is tax-deductible, it simply means the IRS allows it to be subtracted from your annual income when you calculate the taxes you owe. In a nutshell, the lower your income, the lower your tax bill.

Most homeowners are familiar with two popular tax benefits of buying a home — the mortgage interest deduction and the property tax deduction — but some of the more confusing federal tax deductions are related to closing costs. Let’s explore the most common tax questions about closing cost tax deductions for homeowners.

Which closing costs can I deduct on my taxes?

You can write off some mortgage closing costs at tax time. Closing costs typically range between 2% and 6% of your loan amount. When you’re determining what to claim on your taxes, it helps to know IRS rules. Because each person’s tax situation may be different, you may want to consult a tax professional for specific guidance.

Tax-deductible closing costs can be written off in three ways:

  1. Deducted in the year they’re paid
  2. Deducted over the life of the loan
  3. Added to your basis when you sell the home

Closing costs you can deduct in the year they’re paid

Origination fees or points paid on a purchase. The IRS considers “mortgage points” to be charges paid to take out a mortgage. They may include origination fees or discount points, and represent a percentage of your loan amount. For these costs to be tax-deductible in the same year they’re paid, you have to meet all of the following conditions.

  1. The mortgage must have been used to buy or build your primary home.
  2. Paying points is an established practice in the location where the loan was made.
  3. The points paid were normally priced for the area.
  4. You use the cash method of accounting for your taxes (most people do).
  5. The points weren’t paid instead of closing costs such as appraisal fees, inspection fees and property taxes.
  6. You can prove that you or the seller paid the points.
  7. Your primary home secures the loan.
  8. The points were calculated based on the loan’s principal amount.
  9. The amount is shown on your closing disclosure or settlement statement.

Points paid on a home improvement cash-out refinance. If you took out a new home loan for home improvements, the refinance points may be deductible. You’ll have to document that all of the cash was used for renovations and show that the points meet the first six requirements listed above.

Mortgage insurance. Lenders may require mortgage insurance to cover the extra risk of offering a loan with a down payment of less than 20%. If you bought a home before or during 2021, private mortgage insurance (PMI) premiums are deductible.

FHA mortgage insurance and VA funding fees. Government-backed loans typically cover the risks and defray the costs of their programs by charging mortgage insurance, funding fees or guarantee fees. The amount you can deduct should be included in box 5 of your mortgage tax form titled Form 1098. Tax-deductible costs may include:

  • Upfront and annual mortgage insurance premiums paid on a loan insured by the Federal Housing Administration (FHA)
  • Funding fees charged for a loan guaranteed by the U.S. Department of Veterans Affairs (VA)
  • Guarantee fees charged for a loan backed by the U.S. Department of Agriculture (USDA)

Closing costs that can be deducted over the life of your loan

If you can’t take tax deductions for buying a house in the year the closing costs are paid, you still may be able to write them off over the life of your loan.

Points paid on a purchase loan. A portion of the points paid may still be deductible for as long as you have the mortgage.

Points paid on a home improvement refinance loan. In cases where you used only a portion of your loan proceeds for home improvement, any additional points can be deducted over the remaining loan term.

Closing costs that can be deducted when you sell your home

Some closing costs may be used to reduce the taxes on selling a house. They’re added to your “basis” — a measure of the total costs you paid when your home was purchased. These may include:

  • Owner’s title insurance. An owner’s title insurance policy protects you against prior ownership claims on the property.
  • Property taxes. This is only applicable if you paid any share of the seller’s taxes when you bought your home.
  • Title fees or abstract fees. These costs may include escrow, endorsements and other title search fees.
  • Legal and recording fees. A third party charges these fees for preparing the contracts and deeds and documenting the transaction in public records.
  • Survey fees. These fees are paid for a service to confirm the property’s boundaries.
  • Utility installation charges. These are costs you paid for installing any utilities on your property.
  • Transfer or stamp taxes. These taxes vary by state, but if you pay them, they can be added to the basis.

You won’t be able to add these expenses to the basis if the seller paid them when you bought your home. Check your closing disclosure to confirm who paid which closing costs.

Which closing costs aren’t tax-deductible?

You can’t deduct all of your housing-related expenses from your taxable income. Here’s a list of items that aren’t tax-deductible under any circumstances:

  • Homeowners insurance premiums
  • Monthly principal payments
  • Utility costs (gas, water, electric)
  • Money lost on a sale that fell through
  • Home appraisal fees
  • Notary fees
  • Document preparation fees

Where can I find closing cost information?

Form 1098, a mortgage tax form you receive from your mortgage company, provides only information about the mortgage interest and property taxes paid in the prior year. You’ll need a copy of your closing disclosure to verify tax-deductible closing costs. You can find the closing costs we outlined on page 2 of your disclosure. These costs are highlighted in the graphic below.

 

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