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.
Buying a home is an exciting milestone, but it also comes with significant closing costs On average, closing costs amount to 2-5% of the total loan amount For a $300,000 home purchase, you can expect to pay $6,000-$15,000 in various fees and prepaid costs just to finalize the deal.
As a buyer, you want to know if you can get any tax relief on these expenses. The answer is maybe. Certain closing costs on a home purchase or refinance can potentially be tax deductible. But you need to itemize deductions and meet IRS requirements.
In this comprehensive guide, we’ll cover:
- What makes closing costs tax deductible
- 5 types of deductible closing costs
- Limits and rules on claiming deductions
- Non-deductible closing expenses
- How to find deductible costs on your paperwork
What Does “Tax Deductible” Mean?
When a closing cost is tax deductible, you can subtract it from your taxable income when you file your federal income tax return. This lowers your tax liability.
Most taxpayers claim the standard deduction, which is a set amount based on filing status – $12,950 for singles and $25,900 for married couples in 2022.
But in the year you purchase a home, you may benefit more by itemizing deductions instead. This involves tallying up all allowable deductions like mortgage interest, property taxes, and charitable gifts.
If your total itemized deductions exceed the standard amount, the extra costs can directly reduce the income taxes you owe.
Which Closing Costs Can I Deduct on My Taxes?
Several mortgage-related closing costs qualify as federal income tax deductions. They generally fall into three categories:
- Deductible in the year paid
- Deductible over the loan term
- Added to the home sale cost basis
Let’s explore the common closing costs you can write off in each category if you itemize.
Closing Costs Deductible in the Year Paid
These tax deductions can provide immediate tax savings
Origination Fees and Discount Points
Lenders often charge 1-2% of the loan amount in upfront fees, which may include an origination fee, underwriting fee, or discount points. The IRS considers these fees as prepaid interest, also called “points.”
To deduct points in the year they’re paid, you must meet all of these tests:
- Points were paid on a loan to buy or build your main home
- Paying points is common practice in your area
- Points don’t exceed what’s typically charged in your region
- Your loan is secured by your primary residence
- Seller didn’t pay the points
- Points are properly documented on your settlement statement
Mortgage Insurance Premiums
If your down payment is under 20%, you probably have to pay private mortgage insurance (PMI). The premiums are generally tax deductible.
Upfront mortgage insurance you paid at closing and the monthly premiums are deductible in the first year. After that, you can deduct the monthly premiums only.
VA and FHA Fees
Government-backed loans like VA and FHA mortgages charge upfront and annual fees to fund their programs. These costs are deductible:
- Upfront and annual FHA mortgage insurance premiums
- VA funding fees
- USDA guarantee fees
The fees will be reported in Box 5 of the Form 1098 mortgage interest statement you receive each year.
Closing Costs Deductible Over the Loan Term
Some points and fees that don’t qualify for immediate write-offs may still be deductible over time.
Points on a Purchase
If the points you paid at closing don’t meet all the IRS tests for an immediate deduction, they may still qualify to be deducted ratably over the life of the loan.
Points on a Cash-Out Refinance
When you tap home equity for other uses like debt consolidation or home renovations, some of the points may be deducted over the remaining loan term.
Calculate the deduction by dividing the points evenly across the number of monthly payments. So if you pay $3,000 in points on a 30-year refinance, you can deduct $10 per month ($3,000/360 months).
Closing Costs That Adjust the Home Sale Cost Basis
Some fees don’t provide current tax savings but can potentially lower taxes later when you sell the home. These costs get added to your home’s cost basis, which is used to calculate taxable gain.
Title Fees
Title insurance fees, title searches, document preparation and recording charges are added to your cost basis.
Transfer and Stamp Taxes
State or local transfer taxes and recording fees paid at closing can increase your basis.
Surveys and Legal Fees
Survey costs to define property boundaries and attorney fees also count toward your purchase costs for tax purposes.
Utility and Improvement Costs
If you paid any fees to establish utility service or make property improvements at purchase, these can raise your basis too.
Limits and Rules on Claiming Closing Cost Deductions
To qualify for federal tax deductions, your closing costs have to meet certain IRS requirements. Key things to keep in mind:
- You must itemize deductions on Schedule A to claim write-offs.
- Points and fees must be charged on a loan to buy, build or substantially improve your main home.
- Points can’t exceed what’s typically charged in your region.
- Seller can’t pay the points or fees you want to deduct.
- You’ll need documentation like a settlement statement.
- There are income limits on deducting points and mortgage insurance.
Also, you can’t deduct more in points and other itemized deductions than you have income to offset. Excess amounts get carried forward to future tax years.
Consult IRS Publication 936 for full details on the home mortgage interest deduction.
Which Closing Costs Aren’t Tax Deductible?
Many common fees charged at a real estate closing don’t qualify for deductions under current tax law. Non-deductible expenses include:
- Home inspection fees
- Appraisal fees
- Credit report charges
- Lender application and processing fees
- Attorney fees related to title work
- Recording charges
- Homeowner’s insurance premiums
- Property taxes paid at closing
As a general rule, you can’t deduct fees for getting a mortgage or transferring title. Costs for securing or maintaining the home itself also don’t qualify.
Taxes and insurance get claimed separately based on when they are paid. Property taxes are deductible in the year paid, while insurance isn’t deductible.
How to Find Deductible Closing Costs on Your Paperwork
Pinpointing which closing costs might be tax deductible takes a bit of legwork. You’ll need your settlement statement, which outlines all the fees charged at closing.
Common tax-deductible costs are highlighted on page 2 of the standard HUD-1 settlement form. But you’ll also need to review page 1 of the statement and your loan documents to identify all potential write-offs.
Key closing costs to look for include:
- Origination fees or points
- Mortgage insurance premiums
- VA funding fee or FHA MIP
- Attorney fees for preparing loan documents
- Title insurance premiums
- Transfer and stamp taxes
- Recording fees
- Survey fees
Work with a tax professional to verify which expenses qualify based on your situation. Keep copies of your closing statement and real estate purchase contract for documentation.
The Bottom Line
Several types of closing costs may be deductible when you purchase a home or refinance an existing mortgage. But you’ll need to itemize and meet specific IRS rules to claim deductions.
Keeping good records is crucial to identify and verify which of your closing costs qualify for write-offs. Consult a tax advisor to ensure you maximize deductions and properly handle any limits or carryovers. With helpful tax planning, your major upfront costs of getting into a new home can pay off at tax time.
Frequency of Entities:
are home loan closing costs tax deductible: 23
lendingtree: 2
forbes: 2
Closing costs you can deduct in the year they’re paidOrigination 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.
- The mortgage must have been used to buy or build your primary home.
- Paying points is an established practice in the location where the loan was made.
- The points paid were normally priced for the area.
- You use the cash method of accounting for your taxes (most people do).
- The points weren’t paid instead of closing costs such as appraisal fees, inspection fees and property taxes.
- You can prove that you or the seller paid the points.
- Your primary home secures the loan.
- The points were calculated based on the loan’s principal amount.
- 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)
- VA 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)
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.
Are Mortgage Closing Costs Tax-Deductible? – CountyOffice.org
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