Points

The term points is used to describe certain charges paid, or treated as paid, by a borrower to obtain a home mortgage. Points may also be called loan origination fees, maximum loan charges, loan discount, or discount points.

Figure B. Are My Points Fully Deductible This Year?

A borrower is treated as paying any points that a home seller pays for the borrower's mortgage. See Points paid by the seller, later.

General rule.   You generally cannot deduct the full amount of points in the year paid. Because they are prepaid interest, you generally must deduct them over the life (term) of the mortgage.

Exception.   You can fully deduct points in the year paid if you meet all the following tests. (You can use Figure B as a quick guide to see whether your points are fully deductible in the year paid.)

1. Your loan is secured by your main home. (Your main home is the one you ordinarily live in most of the time.)
2. Paying points is an established business practice in the area where the loan was made.
3. The points paid were not more than the points generally charged in that area.
4. You use the cash method of accounting. This means you report income in the year you receive it and deduct expenses in the year you pay them. Most individuals use this method.
5. The points were not paid in place of amounts that ordinarily are stated separately on the settlement statement, such as appraisal fees, inspection fees, title fees, attorney fees, and property taxes.
6. The funds you provided at or before closing, plus any points the seller paid, were at least as much as the points charged. The funds you provided do not have to have been applied to the points. They can include a down payment, an escrow deposit, earnest money, and other funds you paid at or before closing for any purpose. You cannot have borrowed these funds from your lender or mortgage broker.
7. You use your loan to buy or build your main home.
8. The points were computed as a percentage of the principal amount of the mortgage.
9. The amount is clearly shown on the settlement statement ( such as the Uniform Settlement Statement, Form HUD-1) as points charged for the mortgage. The points may be shown as paid from either your funds or the seller's.

Note.   If you meet all of these tests, you can choose to either fully deduct the points in the year paid, or deduct them over the life of the loan.

Home improvement loan.   You can also fully deduct in the year paid points paid on a loan to improve your main home, if tests (1) through (6) above are met.

Second home. The Exception does not apply to points you pay on loans secured by your second home. You can deduct these points only over the life of the loan.

Exception does not apply.   If you do not qualify under the exception, or choose not, to deduct the full amount of points in the year paid, see Points in chapter 5 of Publication 535 for the rules on when and how much you can deduct. However, if the points relate to refinancing a home mortgage, see Refinancing, later.

Amounts charged for services.   Amounts charged by the lender for specific services connected to the loan are not interest. Examples of these charges are:

1. Appraisal fees,
2. Notary fees,
3. Preparation costs for the mortgage note or deed of trust,
4. Mortgage insurance premiums, and
5. VA funding fees.

You cannot deduct these amounts as points either in the year paid or over the life of the mortgage. For information about the tax treatment of these amounts and other settlement fees and closing costs, get Publication 530.

Points paid by the seller.   The term points includes loan placement fees that the seller pays to the lender to arrange financing for the buyer.

Treatment by seller.   The seller cannot deduct these fees as interest. But they are a selling expense that reduces the amount realized by the seller. See Publication 523 for information on selling your home.

Treatment by buyer.   The buyer reduces the basis of the home by the amount of the seller-paid points and treats the points as if he or she had paid them. If all the tests under the Exception, earlier, are met, the buyer can deduct the points in the year paid. If any of those tests is not met, the buyer deducts the points over the life of the loan.

If you need information about the basis of your home, see Publication 523 or Publication 530.

Funds provided are less than points.   If you meet all the tests in the Exception, earlier, except that the funds you provided were less than the points charged to you (test (6)), you can deduct the points in the year paid, up to the amount of funds you provided. In addition, you can deduct any points paid by the seller.

Example 1.   When you took out a $100,000 mortgage loan to buy your home in December, you were charged one point ($1,000). You meet all the tests for deducting points in the year paid, except the only funds you provided were a $750 down payment. Of the $1,000 charged for points, you can deduct $750 in the year paid. You spread the remaining $250 over the life of the mortgage.

Example 2.   The facts are the same as in Example 1, except that the person who sold you your home also paid one point ($1,000) to help you get your mortgage. In the year paid, you can deduct $1,750 ($750 of the amount you were charged plus the $1,000 paid by the seller). You spread the remaining $250 over the life of the mortgage. You must reduce the basis of your home by the $1,000 paid by the seller.

Excess points.   If you meet all the tests in the Exception, earlier, except that the points paid were more than generally paid in your area ( test (3)), you deduct in the year paid only the points that are generally charged. You must spread any additional points over the life of the mortgage.

Mortgage ending early.   If you spread your deduction for points over the life of the mortgage, you can deduct any remaining balance in the year the mortgage ends. However, if you refinance the mortgage with the same lender, you cannot deduct any remaining balance of spread points. Instead, deduct the remaining balance over the term of the new loan.

A mortgage may end early due to a prepayment, refinancing, foreclosure, or similar event.

Example.   Dan paid $3,000 in points in 1993 that he had to spread out over the 15-year life of the mortgage. He had deducted $1,800 of these points through 2001.

Dan prepaid his mortgage in full in 2002. He can deduct the remaining $1,200 of points in 2002.

Refinancing.   Generally, points you pay to refinance a mortgage are not deductible in full in the year you pay them. This is true even if the new mortgage is secured by your main home.

However, if you use part of the refinanced mortgage proceeds to improve your main home and you meet the first 6 tests listed under Exception, earlier, you can fully deduct the part of the points related to the improvement in the year you paid them with your own funds. You can deduct the rest of the points over the life of the loan.

Example 1.   In 1991, Bill Fields got a mortgage to buy a home. In 2002, Bill refinanced that mortgage with a 15-year $100,000 mortgage loan. The mortgage is secured by his home. To get the new loan, he had to pay three points ($3,000). Two points ($2,000) were for prepaid interest, and one point ($1,000) was charged for services, in place of amounts that ordinarily are stated separately on the settlement statement. Bill paid the points out of his private funds, rather than out of the proceeds of the new loan. The payment of points is an established practice in the area, and the points charged are not more than the amount generally charged there. Bill's first payment on the new loan was due July 1. He made six payments on the loan in 2002 and is a cash basis taxpayer.

Bill used the funds from the new mortgage to repay his existing mortgage. Although the new mortgage loan was for Bill's continued ownership of his main home, it was not for the purchase or improvement of that home. He cannot deduct all of the points in 2002. He can deduct two points ($2,000) ratably over the life of the loan. He deducts $67 [($2,000 ÷ 180 months) × 6 payments] of the points in 2002. The other point ($1,000) was a fee for services and is not deductible.

Example 2.   The facts are the same as in Example 1, except that Bill used $25,000 of the loan proceeds to improve his home and $75,000 to repay his existing mortgage. Bill deducts 25% ($25,000 ÷ $100,000) of the points ($2,000) in 2002. His deduction is $500 ($2,000 × 25%).

Bill also deducts the ratable part of the remaining $1,500 ($2,000 - $500) that must be spread over the life of the loan. This is $50 [($1,500 ÷ 180 months) × 6 payments] in 2002. The total amount Bill deducts in 2002 is $550 ($500 + $50).

Limits on deduction.   You cannot fully deduct points paid on a mortgage that exceeds the limits discussed in Part II. See the Table 1 Instructions for line 10.

Form 1098.   The mortgage interest statement you receive should show not only the total interest paid during the year, but also your deductible points paid during the year. See Mortgage Interest Statement, next.

Mortgage Interest Statement

If you paid $600 or more of mortgage interest (including certain points) during the year on any one mortgage, you generally will receive a Form 1098, Mortgage Interest Statement, or a similar statement from the mortgage holder. You will receive the statement if you pay interest to a person (including a financial institution or cooperative housing corporation) in the course of that person's trade or business. A governmental unit is a person for purposes of furnishing the statement.

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

The statement will show the total interest you paid during the year. If you purchased a main home during the year, it also will show the deductible points paid during the year, including seller-paid points. However, it should not show any interest that was paid for you by a government agency.

As a general rule, Form 1098 will include only points that you can fully deduct in the year paid. However, certain points not included on Form 1098 also may be deductible, either in the year paid or over the life of the loan. See the earlier discussion of Points to determine whether you can deduct points not shown on Form 1098.

Prepaid interest on Form 1098.   If you prepaid interest in 2002 that accrued in full by January 15, 2003, this prepaid interest may be included in box 1 of Form 1098. However, you cannot deduct the prepaid amount for January 2003 in 2002. (See Prepaid interest, earlier.) You will have to figure the interest that accrued for 2003 and subtract it from the amount in box 1. You will include the interest for January 2003 with other interest you pay for 2003.

Refunded interest.   If you received a refund of mortgage interest you overpaid in an earlier year, you generally will receive a Form 1098 showing the refund in box 3. See Refunds of interest under Special Situations, earlier.

How To Report

Deduct the home mortgage interest and points reported to you on Form 1098 on line 10, Schedule A (Form 1040). If you paid more deductible interest to the financial institution than the amount shown on Form 1098, show the larger deductible amount on line 10. Attach a statement explaining the difference and print See attached next to line 10.

Deduct home mortgage interest that was not reported to you on Form 1098 on line 11 of Schedule A (Form 1040). 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. A Form W-9, Request for Taxpayer Identification Number and Certification, can be used for this purpose. Failure to meet any of these requirements may result in a $50 penalty for each failure.

If you can take a deduction for points that were not reported to you on Form 1098, deduct those points on line 12 of Schedule A (Form 1040).

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 print See attached next to the line.

Similarly, if you are the payer of record on a mortgage on which there are other borrowers entitled to a deduction for the interest shown on the Form 1098 you received, deduct only your share of the interest on line 10 of Schedule A (Form 1040). You should let each of the other borrowers know what his or her share is.

Mortgage proceeds used for business or investment.   If your home mortgage interest deduction is limited under the rules explained in Part II, but all or part of the mortgage proceeds were used for business, investment, or other deductible activities, see Table 2 near the end of this publication. It shows where to deduct the part of your excess interest that is for those activities. The Table 1 Instructions for line 13 in Part II explain how to divide the excess interest among the activities for which the mortgage proceeds were used.

Special Rule for Tenant-Stockholders in Cooperative Housing Corporations

A qualified home includes stock in a cooperative housing corporation owned by a tenant-stockholder. This applies only if the tenant-stockholder is entitled to live in the house or apartment because of owning stock in the cooperative.

Cooperative housing corporation.   This is a corporation that meets all of the following conditions.

1. The corporation has only one class of stock outstanding.
2. Each of the stockholders, only because of owning the stock, can live in a house, apartment, or house trailer owned or leased by the corporation.
3. No stockholder can receive any distribution out of capital, except on a partial or complete liquidation of the corporation.
4. The tenant-stockholders must pay at least 80% of the corporation's gross income for the tax year. For this purpose, gross income means all income received during the entire tax year, including any received before the corporation changed to cooperative ownership.

Stock used to secure debt.   In some cases, you cannot use your cooperative housing stock to secure a debt because of either:

1. Restrictions under local or state law, or
2. Restrictions in the cooperative agreement (other than restrictions in which the main purpose is to permit the tenant-stockholder to treat unsecured debt as secured debt).

However, you can treat a debt as secured by the stock to the extent that the proceeds are used to buy the stock under the allocation of interest rules. See chapter 5 of Publication 535 for details on these rules.

Figuring deductible home mortgage interest.   Generally, if you are a tenant-stockholder, you can deduct payments you make for your share of the interest paid or incurred by the cooperative. The interest must be on a debt to buy, build, change, improve, or maintain the cooperative's housing, or on a debt to buy the land.

Figure your share of this interest by multiplying the total by the following fraction.

formula: interest on coop

Limits on deduction.   To figure how the limits discussed in Part II apply to you, treat your share of the cooperative's debt as debt incurred by you. The cooperative should determine your share of its grandfathered debt, its home acquisition debt, and its home equity debt. (Your share of each of these types of debt is equal to the average balance of each debt multiplied by the fraction just given.) After your share of the average balance of each type of debt is determined, you include it with the average balance of that type of debt secured by your stock.

Form 1098.   The cooperative should give you a Form 1098 showing your share of the interest. Use the rules in this publication to determine your deductible mortgage interest.

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