Buying a home and investing in real estate yields tax breaks for the buyer just as investing in retirement accounts and other forms of investing do. Our tax system tends to favor property ownership for two major reasons 1) it is a widely held belief by the government that people tend to take better care of something that they actually own and 2) powerful real estate lobbies contribute to beneficial property ownership issues within our tax code as builders, contractors, etc have a big financial stake in the building and improvement of housing properties.
Mortgage Interest and Property Tax Breaks
There are two major ongoing expenses of home ownership that lead to tax deductions for homeowners. The first is the interest your client pays on their mortgage. Mortgage interest payments can be deducted on Schedule A Form 1040 for mortgage payments made on your primary residence as well as their secondary home for a mortgage debt totaling $1,000,000. In addition, interest paid on a home equity loan of up to $100,000 can also be deducted on their tax return.
The second major ongoing expense of home ownership that can be deducted is property taxes. Property taxes can be deducted on Schedule A Form 1040 and are fully deductible. That means that regardless of the price of the home your client owns, their property taxes are still fully deductible and there are no limitations on the deduction.
Home Office Deductions
Your client is now entitled to claim a home deduction if their home office is used to conduct administrative or managerial activities provided there is no other location where they may conduct these types of activities. They are no longer required to meet with customers or use their home office as a principal place of business conduct in order to claim it as a deduction. However, their home office still has to be used exclusively and on a regular basis as the place where they do their administrative or management activities or they cannot use it as a deduction. This new rule was designed to help those who perform their primary duties at client sites or customer offices, such as doctors, trades people and salespeople.
To claim the deduction, they use Form 8829, Expenses for Business Use of their Home. If they use a portion of they residence for business, you may deduct the depreciation, real estate taxes, insurance, mortgage interest, utilities and repairs related to the part of the house. (This applies to renters as well.) Your client's may also deduct expenses related to a portion of their home in which they store inventory or samples, even if this isn't the sole purpose and use of this part of the house.
Capital Gains Exclusion
Under the 1997 capital gains tax changes pertaining to the sale of a primary residence, the amount of profit from the sale of a house that can be excluded from tax was increased significantly to up to $250,000 for single filers and $500,000 for joint filers. In addition, the old house sale rules whereby a seller had to be over a particular age or be buying a replacement house of equal or greater value than the one just sold no longer apply. This means that if your client so chooses, they may move to a less costly housing market and be largely free of the tax consequences of doing so. As this tax break applies to primary residences only, they may choose to move into a rental property they own for two years before they sell it and still be able to reap this tax break. They may lose the privilege of excluding tax on the sale of their property if they move from their primary residence and start renting it out before they sell it. The only exception is if they tried to the sell the house after they moved and only rented to help defray the costs of keeping it until they sold it.
