When a taxpayer files an income tax return, he pays a particular part of his income to the IRS. Suppose that you have earned $100 in the fiscal year and the income tax that is collected by the IRS is 2%, then you will be paying the IRS $2. Thus your income tax is $2 and taxable income is $100.
According to the IRS, there are however some expenditures, that can be deducted from your taxable income. For example if you have paid $4 tax to your local and state government, then your tax deduction for IRS income tax becomes, $4 and taxable income becomes $96. There are different tax deductions that people can avail of during filing for income tax.
Are Closing Costs Deductible?
The tax deduction depends on the nature of the loan and the nature of closing costs. Some of the commonly deductible closing costs include pre-paid interest, insurance costs, property taxes to state government, etc.
Anything paid to the government (in the form of taxes and fees), insurance companies (in the form of premium) and cost of the loans (such as interest and service charges), are termed deductible closing costs.
It means that when you file for the income tax return, these amounts will be deducted from your taxable income. It must be noted that closing costs, such as commissions and brokerage are not deductible from the taxable income.
How to Deduct Closing Costs on Taxes
It's another very common question. In most of the cases, these cost are deductible from the taxable income as they are a part of itemized deductions. The Topic 500 of the IRS deals in such deductions.
Now, while filling out the Form 1040, you will have to refer to the different deductions and corresponding closing costs that you want to deduct from your taxable income. If you have paid any property taxes to the state, then you can deduct them in accordance with the Topic 503.
Similarly, home mortgage points (Topic 504), interest expenditure (Topic 505), if the interest has been prepaid, business use of home (509) and disaster losses (Topic 515), are some of the closing costs that you can avail.
Are Mortgage Closing Costs Tax Deductible
The answer is similar to the previous one. Some mortgage closing costs such as, pre-paid interest and property taxes are deductible. However, in case of no closing cost home loans, there might be a genuine debate.
In such a case, you can avail the deduction of interest in the upcoming fiscal years. Similarly, if you have an agreement with the lender for a 'no closing cost loan' to repay the closing costs at a future date, then you can avail the deductions in that future year.
The seller paid closing costs, tax-deductible expenditures can have many twists and turns, and it is essential to compare the loan agreement document, and Form 1040, to find out the valid deductions.
Are Refinance Closing Costs Tax Deductible
Refinancing closing costs tax-deductible expenditures are parallel to most of the other types of closing costs of loans. In addition to the normal deductions, you may also avail some very good amounts of property tax deductions as a refinanced property is apprised by tax assessor.
The properties that are refinanced, are usually old and their comparative market values lie in the inflating market trend, due to which they have a higher property tax, which is of course deductible. In order to avoid the closing costs for a particular fiscal year, you may also avail of no closing cost refinance.
Understanding Closing Costs
When you purchase a house with the help of a mortgage loan or for that matter any property with the help of a secured loan, there are certain fees, or rather costs that you have to bear, in order to legally transfer the lien of the asset to the lender. In addition to that you may have to pay other taxes as well as some essential fees.
The common closing costs have been listed as follows:
- Attorney fees
- Title service costs
- Recording fees
- Document or transaction stamps or taxes
- Commission to brokers
- Mortgage application fees
- Home warranties
- Pre-paid insurance
- Pro-rata property taxes
- Pro-rata interest
- Points or pre-paid interest
- Appraisal fees
- Inspection fees
As discussed earlier, closing costs include a lot of fees, commissions and petty payments here and there and not all of them are tax-deductible. However, the ones that do qualify for tax deductions should definitely be taken advantage of.
After all, the best aspect of taking up deductions is that you pay up relatively less income tax. The facts and figures in articles are not universally applicable and IRS rules and norms are subject to amendments from time to time. These rules are however valid as of date.