Where To Deduct Home Mortgage Interest

Enter on line 10 of your Schedule A (Form 1040) the home mortgage interest and points reported to you on Form 1098 (discussed next). If you did not receive a Form 1098, enter your deductible interest on line 11, and any deductible points on line 12. See Table 1 for a summary of where to deduct home mortgage interest and real estate taxes.

If you paid home mortgage interest to the person from whom you bought your home, show that person's name, address, and social security number (SSN) or employer identification number (EIN) on the dotted lines next to line 11. The seller must give you this number and you must give the seller your SSN. Form W-9, Request for Taxpayer Identification Number and Certification, can be used for this purpose. Failure to meet either of these requirements may result in a $50 penalty for each failure.

Mortgage Interest Statement

If you paid $600 or more of mortgage interest (including certain points) during the year on any one mortgage to a mortgage holder in the course of that holder's trade or business, you should receive a Form 1098, Mortgage Interest Statement, or similar statement from the mortgage holder. The statement will show the total interest paid on your mortgage during the year. If you bought a main home during the year, it also will show the deductible points you paid and any points you can deduct that were paid by the person who sold you your home. See Points, earlier.

The interest you paid at settlement should be included on the statement. If it is not, add the interest from the settlement sheet that qualifies as home mortgage interest to the total shown on Form 1098 or similar statement. Put the total on line 10 of Schedule A (Form 1040) and attach a statement to your return explaining the difference. Write See attached to the right of line 10.

A mortgage holder can be a financial institution, a governmental unit, or a cooperative housing corporation. If a statement comes from a cooperative housing corporation, it generally will show your share of interest.

You should receive your mortgage interest statement for each year by January 31 of the following year. A copy of this form will be sent to the IRS also.

Example.   You bought a new home on May 3. You paid no points on the purchase. During the year, you made mortgage payments which included $1,872 deductible interest on your new home. The settlement sheet for the purchase of the home included interest of $232 for 29 days in May. The mortgage statement you receive from the lender includes total interest of $2,104 ($1,872 + $232). You can deduct the $2,104 if you itemize your deductions.

Refund of overpaid interest.   If you receive a refund of mortgage interest you overpaid in a prior year, you generally will receive a Form 1098 showing the refund in box 3. Generally, you must include the refund in income in the year you receive it. See Refund of home mortgage interest, earlier, under Home Mortgage Interest.

More than one borrower.   If you and at least one other person (other than your spouse if you file a joint return) were liable for and paid interest on a mortgage that was for your home, and the other person received a Form 1098 showing the interest that was paid during the year, attach a statement to your return explaining this. Show how much of the interest each of you paid, and give the name and address of the person who received the form. Deduct your share of the interest on line 11 of Schedule A (Form 1040), and write See attached to the right of that line.

Mortgage Interest Credit

The mortgage interest credit is intended to help lower-income individuals afford home ownership. If you qualify, you can claim the credit each year for part of the home mortgage interest you pay.

Who qualifies.    You may be eligible for the credit if you were issued a mortgage credit certificate (MCC) from your state or local government. Generally, an MCC is issued only in connection with a new mortgage for the purchase of your main home.

The MCC will show the certificate credit rate you will use to figure your credit. It also will show the certified indebtedness amount. Only the interest on that amount qualifies for the credit. See Figuring the credit, later.

See the text for information on what expenses are eligible.

Table 1. Where To Deduct Interest and Taxes Paid on Your Home

IF you are eligible to deduct . . .	THEN report the amount on Schedule A (Form 1040) . . .
Real estate taxes	line 6
Home mortgage interest and points reported on Form 1098	line 10
Home mortgage interest not reported on Form 1098	line 11
Points not reported on Form 1098	line 12

You must contact the appropriate government agency about getting an MCC before you get a mortgage and buy your home. Contact your state or local housing finance agency for information about the availability of MCCs in your area.

How to claim the credit.   To claim the credit, complete Form 8396 and attach it to your Form 1040. Include the credit in your total for line 52 of Form 1040; be sure to check box a on that line.

Reducing your home mortgage interest deduction.   If you itemize your deductions on Schedule A (Form 1040), you must reduce your home mortgage interest deduction by the amount of the mortgage interest credit shown on line 3 of Form 8396. You must do this even if part of that amount is to be carried forward to 2003.

Selling your home.   If you purchase a home after 1990 using an MCC, and you sell that home within 9 years, you will have to recapture (repay) a portion of the credit. For additional information, see Publication 523.

Figuring the Credit

Figure your credit on Form 8396.

Mortgage not more than certified indebtedness.   If your mortgage loan amount is equal to (or smaller than) the certified indebtedness amount shown on your MCC, enter on line 1 of Form 8396 all the interest you paid on your mortgage during the year.

Mortgage more than certified indebtedness.   If your mortgage loan amount is larger than the certified indebtedness amount shown on your MCC, you can figure the credit on only part of the interest you paid. To find the amount to enter on line 1, multiply the total interest you paid during the year on your mortgage by the following fraction.

Certified indebtedness amount on your MCC

Original amount of your mortgage

Example.   Emily bought a home this year. Her mortgage loan is $50,000. The certified indebtedness amount on her MCC is $40,000. She paid $4,000 interest this year. Emily figures the interest to enter on line 1 of Form 8396 as follows:

$40,000 / $50,000 = 80% (.80)

$4,000 x .80 = $3,200

Emily enters $3,200 on line 1 of Form 8396. In each later year, she will figure her credit using only 80% of the interest she pays for that year.

Limits

Two limits may apply to your credit.

• A limit based on the credit rate, and
• A limit based on your tax.

Limit based on credit rate.   If the certificate credit rate is higher than 20%, the credit you are allowed cannot be more than $2,000.

Limit based on tax.   Your credit (after applying the limit based on the credit rate) cannot be more than your regular tax liability on line 42 of Form 1040, plus any alternative minimum tax on line 43 of Form 1040, minus certain other credits. Use Form 8396 to figure this limit.

Dividing the Credit

If two or more persons (other than a married couple filing a joint return) hold an interest in the home to which the MCC relates, the credit must be divided based on the interest held by each person.

Example.   John and his brother, George, were issued an MCC. They used it to get a mortgage on their main home. John has a 60% ownership interest in the home, and George has a 40% ownership interest in the home. John paid $5,400 mortgage interest this year and George paid $3,600.

The MCC shows a credit rate of 25% and a certified indebtedness amount of $65,000. The loan amount (mortgage) on their home is $60,000. The credit is limited to $2,000 because the credit rate is more than 20%.

John figures the credit by multiplying the mortgage interest he paid this year ($5,400) by the certificate credit rate (25%) for a total of $1,350. His credit is limited to $1,200 ($2,000 × 60%).

George figures the credit by multiplying the mortgage interest he paid in this year ($3,600) by the certificate credit rate (25%) for a total of $900. His credit is limited to $800 ($2,000 × 40%).

Table 2. Effect of Refinancing on Your Credit

IF you get a new (reissued) MCC and the amount of your new mortgage is . . .	THEN the interest you claim on Form 8396, line 1, is . . .*
Smaller than or equal to the certificate indebtedness amount on the new MCC	All the interest paid during the year on your new mortgage
Larger than the certificate indebtedness on the new MCC	Interest paid during the year on your new mortgage multiplied by the following fraction.
	Certificate indebtedness on      your new MCC       Original amount of your mortgage

*The credit using the new MCC cannot be more than the credit using the old MCC. See New MCC cannot increase your credit.

Carryforward

If your allowable credit is reduced because of the limit based on your tax, you can carry forward the unused portion of the credit to the next 3 years or until used, whichever comes first.

Example.   You receive a mortgage credit certificate from State X. This year, your regular tax liability is $1,100, you owe no alternative minimum tax, and your mortgage interest credit is $1,700. You claim no other credits. Your unused mortgage interest credit for this year is $600 ($1,700 - $1,100). You can carry forward this amount to the next 3 years or until used, whichever comes first.

Credit rate more than 20%.   If you are subject to the $2,000 limit because your certificate credit rate is more than 20%, you cannot carry forward any amount more than $2,000 (or your share of the $2,000 if you must divide the credit).

Example.   In the earlier example under Dividing the Credit, John and George used the entire $2,000 credit. The excess $150 for John ($1,350 - $1,200) and $100 for George ($900 - $800) cannot be carried forward to future years, despite the respective tax liabilities for John and George.

Refinancing

If you refinance your original mortgage loan on which you had been given an MCC, you must get a new MCC to be able to claim the credit on the new loan. The amount of credit you can claim on the new loan may change. Table 2 summarizes how to figure your credit if you refinance your original mortgage loan.

An issuer may reissue an MCC after you refinance your mortgage, but only up to one year after the date of the refinancing. If you did not get a new MCC, you may want to contact the state or local housing finance agency that issued your original MCC for information about whether you can get a reissued MCC.

Year of refinancing.   In the year of refinancing, add the applicable amount of interest paid on the old mortgage and the applicable amount of interest paid on the new mortgage, and enter the total on line 1 of Form 8396.

If your new MCC has a credit rate different from the rate on the old MCC, you must attach a statement to Form 8396. The statement must show the calculation for lines 1, 2, and 3 for the part of the year when the old MCC was in effect. It must show a separate calculation for the part of the year when the new MCC was in effect. Combine the amounts of each line 3, enter the total on line 3 of the form, and write see attached on the dotted line.

New MCC cannot increase your credit.   The credit that you claim with your new MCC cannot be more than the credit that you could have claimed with your old MCC.

In most cases, the agency that issues your new MCC will make sure that it does not increase your credit. However, if either your old loan or your new loan has a variable (adjustable) interest rate, you will need to check this yourself. In that case, you will need to know the amount of the credit you could have claimed using the old MCC.

There are two methods for figuring the credit you could have claimed. Under one method, you figure the actual credit that would have been allowed. This means you use the credit rate on the old MCC and the interest you would have paid on the old loan.

If your old loan was a variable rate mortgage, you can use another method to determine the credit that you could have claimed. Under this method, you figure the credit using a payment schedule of a hypothetical self-amortizing mortgage with level payments projected to the final maturity date of the old mortgage. The interest rate of the hypothetical mortgage is the annual percentage rate (APR) of the new mortgage for purposes of the Federal Truth in Lending Act. The principal of the hypothetical mortgage is the remaining outstanding balance of the certified mortgage indebtedness shown on the old MCC.

You must choose one method and use it consistently beginning with the first tax year for which you claim the credit based on the new MCC.

As part of your tax records, you should keep your old MCC and the schedule of payments for your old mortgage.

Basis

Basis is your starting point for figuring a gain or loss if you later sell your home, or for figuring depreciation if you later use part of your home for business purposes or for rent.

While you own your home, you may add certain items to your basis. You may subtract certain other items from your basis. These items are called adjustments to basis and are explained later under Adjusted Basis.

It is important that you understand these terms when you first acquire your home because you must keep track of your basis and adjusted basis during the period you own your home. You also must keep records of the events that affect basis or adjusted basis. See Keeping Records, later.

Figuring Your Basis

How you figure your basis depends on how you acquire your home. If you buy or build your home, your cost is your basis. If you receive your home as a gift, your basis is usually the same as the adjusted basis of the person who gave you the property. If you inherit your home from a decedent, the fair market value at the date of the decedent's death is generally your basis. Each of these topics is discussed later.

Fair market value.   Fair market value is the price that property would sell for on the open market. It is the price that would be agreed on between a willing buyer and a willing seller, with neither having to buy or sell, and both having reasonable knowledge of the relevant facts.

Property transferred from a spouse.   If your home is transferred to you from your spouse, or from your former spouse as a result of a divorce, your basis is the same as your spouse's (or former spouse's) adjusted basis just before the transfer. Publication 504, Divorced or Separated Individuals, fully discusses transfers between spouses.

Cost as Basis

The cost of your home, whether you purchased it or constructed it, is the amount you paid for it, including any debt you assumed.

The cost of your home includes most settlement or closing costs you paid when you bought the home. If you built your home, your cost includes most closing costs paid when you bought the land or settled on your mortgage.

Purchase.   The basis of a home you bought is the amount you paid for it. This usually includes your down payment and any debt you assumed. The basis of a cooperative apartment is the amount you paid for your shares in the corporation that owns or controls the property. This amount includes any purchase commissions or other costs of acquiring the shares.

Construction.   If you contracted to have your home built on land that you own, your basis in the home is your basis in the land plus the amount you paid to have the home built. This includes the cost of labor and materials, the amount you paid the contractor, any architect's fees, building permit charges, utility meter and connection charges, and legal fees that are directly connected with building your home. If you built all or part of your home yourself, your basis is the total amount it cost you to build it. You cannot include the value of your own labor or any other labor for which you did not pay.

Real estate taxes.   Real estate taxes are usually divided so that you and the seller each pay taxes for the part of the property tax year that each owned the home. See the earlier discussion of Real estate taxes paid at settlement or closing, under Real Estate Taxes, to figure the real estate taxes you paid or are considered to have paid.

If you pay any part of the seller's share of the real estate taxes (the taxes up to the date of sale), and the seller did not reimburse you, add those taxes to your basis in the home. You cannot deduct them as taxes paid.

If the seller paid any of your share of the real estate taxes (the taxes beginning with the date of sale), you can still deduct those taxes. Do not include those taxes in your basis. If you did not reimburse the seller, you must reduce your basis by the amount of those taxes.

This table summarizes items that generally will increase or decrease your basis in your home.

Table 3. Adjusted Basis

Increases to Basis	Decreases to Basis
Improvements: Putting an addition on your home Replacing an entire roof Paving your driveway Installing central air conditioning Rewiring your home Assessments for local improvements (see Assessments for local benefits) Amounts spent to restore damaged property	Insurance or other reimbursement for casualty losses Deductible casualty loss not covered by insurance Payments received for easement or right-of-way granted Depreciation allowed or allowable if home is used for business or rental purposes Value of subsidy for energy conservation measure excluded from income

Example 1.   You bought your home on September 1. The property tax year in your area is the calendar year, and the tax is due on August 15. The real estate taxes on the home you bought were $730 for the year and had been paid by the seller on August 15. You did not reimburse the seller for your share of the real estate taxes from September 1 through December 31. You must reduce the basis of your home by the $244 [(122 ÷ 365) × $730] the seller paid for you. You can deduct your $244 share of real estate taxes on your return for the year you purchased your home.

Example 2.   You bought your home on May 3, 2002. The property tax year in your area is the calendar year. The taxes for the previous year are assessed on January 2 and are due on May 31 and November 30. Under state law, the taxes become a lien on May 31. You agreed to pay all taxes due after the date of sale. The taxes due in 2002 for 2001 were $520. The taxes due in 2003 for 2002 will be $565.

You cannot deduct any of the taxes paid in 2002 because they relate to the 2001 property tax year. You did not own the home until 2002. Instead, you add the $520 to the cost (basis) of your home.

You owned the home in 2002 for 243 days (May 3 to December 31), so you can take a tax deduction on your 2003 return of $376 [(243 ÷ 365) × $565] paid in 2003 for 2002. You add the remaining $189 ($565 - $376) of taxes paid in 2003 to the cost (basis) of your home.

Settlement or closing costs.   If you bought your home, you probably paid settlement or closing costs in addition to the contract price. These costs are divided between you and the seller according to the sales contract, local custom, or understanding of the parties. If you built your home, you probably paid these costs when you bought the land or settled on your mortgage.

The only settlement or closing costs you can deduct are home mortgage interest and certain real estate taxes. You deduct them in the year you buy your home if you itemize your deductions. You can add certain other settlement or closing costs to the basis of your home.

Items added to basis.   You can include in your basis the settlement fees and closing costs you paid for buying your home. A fee is for buying the home if you would have had to pay it even if you paid cash for the home.

The following are some of the settlement fees and closing costs that you can include in the original basis of your home.

• Abstract fees (abstract of title fees).
• Charges for installing utility services.
• Legal fees (including fees for the title search and preparation of the sales contract and deed).
• Recording fees.
• Surveys.
• Transfer taxes.
• Title insurance.
• Any amount the seller owes that you agree to pay, such as back taxes or interest, recording or mortgage fees, cost for improvements or repairs, and sales commissions.

If the seller actually paid for any item for which you are liable and for which you can take a deduction (such as your share of the real estate taxes for the year of sale), you must reduce your basis by that amount unless you are charged for it in the settlement.

Items not added to basis and not deductible.   Here are some settlement and closing costs that you cannot deduct or add to your basis.

1. Fire insurance premiums.
2. Charges for using utilities or other services related to occupancy of the home before closing.
3. Rent for occupying the home before closing.
4. Charges connected with getting or refinancing a mortgage loan, such as:
   1. FHA mortgage insurance premiums and VA funding fees,
   2. Loan assumption fees,
   3. Cost of a credit report, and
   4. Fee for an appraisal required by a lender.

Points paid by seller.   If you bought your home after April 3, 1994, you must reduce your basis by any points paid for your mortgage by the person who sold you your home.

If you bought your home after 1990 but before April 4, 1994, you must reduce your basis by seller-paid points only if you deducted them. See Points, earlier, for the rules on deducting points.

Gift

To figure the basis of property you receive as a gift, you must know its adjusted basis (defined later) to the donor just before it was given to you, its FMV at the time it was given to you, and any gift tax paid on it.

Donor's adjusted basis is more than FMV.   If someone gave you your home and the donor's adjusted basis, when it was given to you, was more than the fair market value, your basis at the time of receipt is the same as the donor's adjusted basis.

Disposition basis.   If the donor's adjusted basis at the time of the gift is more than the FMV, your basis when you dispose of the property will depend on whether you have a gain or a loss.

• If using the donor's adjusted basis results in a loss when you sell the home, you must use the fair market value of the home at the time of the gift as your basis.
• If using the fair market value results in a gain, you have neither a gain nor a loss.

Donor's adjusted basis equal to or less than the FMV.   If someone gave you your home after 1976 and the donor's adjusted basis, when it was given to you, was equal to or less than the fair market value, your basis at the time of receipt is the same as the donor's adjusted basis, plus the part of any federal gift tax paid that is due to the net increase in value of the home.

Part of federal gift tax due to net increase in value.   Figure the part of the federal gift tax paid that is due to the net increase in value of the home by multiplying the total federal gift tax paid by a fraction. The numerator (top part) of the fraction is the net increase in the value of the home, and the denominator (bottom part) is the value of the home for gift tax purposes after reduction for any annual exclusion and marital or charitable deduction that applies to the gift. The net increase in the value of the home is its fair market value minus the donor.s adjusted basis.

Publication 551 gives more information, including examples, on figuring your basis when you receive property as a gift.

Inheritance

Your basis in a home you inherited is generally the fair market value of the home on the date of the decedent's death or on the alternate valuation date if the personal representative for the estate chooses to use alternative valuation.

If an estate tax return was filed, your basis is generally the value of the home listed on the estate tax return.

If an estate tax return was not filed, your basis is the appraised value of the home at the decedent's date of death for state inheritance or transmission taxes. Publication 551 and Publication 559, Survivors, Executors, and Administrators, have more information on the basis of inherited property.

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