5 Financial Perks of Being a First Time Homebuyer
A number of tax benefits come with being a homeowner — but you’ve got some work to do if you want to take full advantage.
All of those forms you filled out to buy your house were just the beginning. First-time homeowners have years of mortgage and insurance paperwork to look forward to, and, of course, taxes.
To sort through that pile of paperwork and make sure you’re saving as much money as possible, here are six tax benefits for new homeowners.
1. You can deduct the interest you pay on your mortgage
The home mortgage interest deduction is probably the best-known tax benefit for homeowners. It lets you deduct all the interest you pay toward your home mortgage with a few exceptions, including these big ones:
Your mortgage can’t be more than $1 million.
Your mortgage must be secured by your home (unsecured loans don’t count).
Your mortgage must be on a qualified home, meaning your main or second home (vacation homes count too).
Don’t assume that if you are married and file a joint tax return, you have to own your home together to claim the interest: For purposes of the deduction, the home can be owned by you, your spouse, or jointly. The deduction counts the same either way.
And don’t worry about keeping track of how much you’re paying in interest versus principal each month. At the end of the year, your lender should issue you a form 1098, which reports the amount of interest you’ve paid during the year.
Warning: Since, as a first-time homeowner, you pay more interest than principal in the first few years, that number can be fairly sobering.
2. You may be able to deduct points
Points are essentially prepaid interest that you offer upfront at closing to improve the rate on your mortgage. The more points you pay, the better deal you get.
You can deduct points in the year you pay them if you meet certain criteria. Included in the list (and it’s a long one): Points must be paid on a loan secured by your main home, and that loan must be to purchase or build your main home.
3. For 2015, you can deduct PMI
Private mortgage insurance, or PMI, protects the bank in the event you default. PMI may be required as a condition of a mortgage for first-time homebuyers, especially if they can’t afford a large down payment.
For most years, PMI is not generally deductible. However, for 2015, qualifying homeowners who itemize may claim a tax deduction for the cost of PMI for both their primary home and any vacation homes.
4. Real estate taxes are deductible
Real estate taxes are imposed by state or local governments on the value of your property. Most banks or other mortgage lenders will factor the cost of your real estate taxes into your mortgage and put those amounts into an escrow account.
You can’t deduct the amounts paid into the escrow, but you can deduct the amounts paid out of it to cover the taxes (you’ll see this amount on a form 1098 issued by your lender at the end of the year).
If you don’t escrow for real estate taxes, you’ll deduct what you pay out of pocket directly to the tax authority.
And don’t forget about those taxes you paid at settlement. If you reimburse the seller for taxes already paid for the year, you get to deduct those too.
5. You’ll get capital gains tax relief down the road
Resale value is something you considered when you chose your home. And different from other investments for which you’re taxed on the full value of any gain, you can exclude some of the gain attributable to your home when you sell.
Under current law, you can avoid paying tax on up to $250,000 of gain ($500,000 for married filing jointly) so long as you have owned and lived in the property for two of the last five years (those years of owning and inhabiting don’t have to be consecutive).
Gain over that amount is taxed at capital gains rates, which are generally more favorable than ordinary income tax rates.
10 Questions to Ask Your Mortgage Lender
One of THE MOST important stages in the home-buying process is finding a reputable lender or mortgage broker to handle your transaction. A good lender will respect that you work hard for your money — and you want to spend it wisely.
After running a credit check, your lender will present you with options for what you may qualify to borrow. The mortgage amount can be different depending on two things: the product and interest rate. Since the interest rate determines what you’ll owe every month on that balance, understanding how different mortgage products work is key. Here are 10 questions to ask to make sure you’re getting the best rate (and the best deal).
- What is the interest rate?
Your lender will offer you an interest rate based on the loan and your credit. The interest rate, along with the mortgage balance and loan term, will determine your real monthly payment. A loan with a lower balance or a lower interest rate will make for a smaller monthly payment. If you’re not satisfied with the interest rates offered, work to clean up your credit so you can qualify for a lower interest rate.
- What is the monthly mortgage payment?
As you develop a budget for your new home, make sure you can afford this monthly mortgage payment — and be sure to include insurance and taxes in your monthly payment calculations. And don’t forget about short-term financial goals — say, saving up for a vacation or buying a new computer — and long-term retirement goals to consider. Your monthly mortgage payment shouldn’t be so high that your money can’t work toward your other financial goals.
- Is the mortgage fixed rate or an ARM?
Fixed-rate loans keep the same rate for the life of the loan, which can range between 10 and 30 years. Adjustable-rate mortgages, or ARMs, have interest rates that change after an initial period at regular intervals. If you don’t plan to stay in your home long-term, a hybrid ARM with an initial fixed-rate period may be a better choice, since this type of loan tends to have lower interest rates than fixed-rate mortgages.
If you do consider an ARM, make sure you ask (and understand!) when the rate will change and by how much. Ask how often the rate will change after the initial interest rate change, the index that it’s tied to, and the loan’s margin. There are usually caps to how much the interest rate can increase during one period and over the life of the loan, so recalculate the monthly payment to make sure you can afford that higher rate.
- What fees do I have to pay?
One-time fees, typically called “points,” are due at closing. For every point you pay, your lender will decrease your interest rate by 1%. You can also inquire about whether you might have the option of paying zero closing fees in exchange for a higher interest rate.
- Does the loan have any prepayment penalties?
If you’re saving up to make some extra mortgage payments to pay off your mortgage principal early, you may have to pay a fee. Don’t forget to ask this important question.
- When can I lock in the interest rate and points, and how much does this cost?
Your lender may be able to lock in your interest rate for a time, and for a fee. If rates go up, you’ll still be able to benefit from a lower rate on your mortgage.
- What are the qualifying guidelines for this loan?
The underwriting guidelines are different for every loan, as are income and reserve requirements. Along with requiring you to have sufficient funds for the down payment and closing costs, most mortgages require proof of income and reserves of up to six months of mortgage payments.
- What is the minimum down payment required for this loan?
Different loan products have different down payment requirements. Most mortgages require a 20% down payment, but if you qualify for an FHA loan, for example, your down payment could be as low as 3.5%. In general, loans with lower down payments cost more.
- Do I have to pay for mortgage insurance, and how much will this cost?
Putting down less than 20% on your purchase requires paying mortgage insurance until your loan-to-value, or LTV, ratio falls below 80%. Mortgage insurance premiums can be expensive, sometimes costing up to $100 per month for every $100,000 borrowed.
- Do you have other mortgage products with lower rates that I qualify for?
The best way to comparison-shop is to start with your current lender. They probably offer more than one type of loan, and these may have terms better suited to your financial situation.