As a real estate investor or homeowner, you may already know that interest payments can be a big deduction when it comes to taxes. However, many people don’t realize just how much they can save by taking advantage of this deduction. In this blog post, we’ll explore why Your Biggest Deduction is Interest and how you can make the most of it to save money on your taxes.
Disclaimer: We are not tax professionals. Please consult a tax professional with any questions.
Mortgage Interest Deduction
One of the most common ways that real estate investors and homeowners can take advantage of the interest deduction is through mortgage interest. If you have a mortgage on your primary residence, you can deduct the interest you paid on the mortgage loan on your tax return. The deduction applies to mortgages up to $750,000, or $1 million for mortgages taken out before December 15, 2017.
To take advantage of this deduction, you must itemize your deductions on Schedule A of your tax return. This means that you cannot take the standard deduction and the mortgage interest deduction at the same time. If your mortgage interest is higher than the standard deduction, it makes sense to itemize your deductions and take advantage of this deduction.
It’s important to note that this deduction only applies to your primary residence. If you have a second home or rental property, you can still deduct the interest paid on the mortgage, but the rules are different. You must use the property for personal use for at least 14 days per year or 10% of the days you rent the property to qualify for the mortgage interest deduction.
Investment Property Interest Deduction
If you own rental property, you can also deduct the interest you pay on the mortgage for that property. This can be a significant deduction, especially if you have a large mortgage on the property. You can also deduct interest paid on other loans related to the rental property, such as a home equity loan used to make improvements on the property.
It’s important to note that the rules for deducting interest on rental properties are different than for your primary residence. You must use the property for rental purposes, and you must also actively participate in the management of the property. This means that you must make decisions about how the property is operated and have a significant role in its day-to-day management. Additionally, if you have a net loss on your rental property, you may not be able to deduct all of the interest paid on the mortgage.
Home Equity Line of Credit Interest Deduction
Another way to take advantage of the interest deduction in real estate is through a home equity line of credit (HELOC). A HELOC is a loan that is secured by the equity in your home. You can use the funds from the HELOC for any purpose, such as making improvements to your home or investing in real estate.
The interest paid on a HELOC is also tax-deductible, as long as the loan is used to buy, build, or improve your home. The interest deduction is limited to the first $100,000 of the loan amount, regardless of how the funds are used. Additionally, you must itemize your deductions on Schedule A to take advantage of this deduction.
Other Real Estate Interest Deductions
In addition to the deductions listed above, there are a few other ways that real estate investors can deduct interest payments on their taxes. For example, if you take out a loan to purchase a commercial property, the interest paid on that loan is tax-deductible. Additionally, if you use a loan to purchase land that you intend to build on, the interest paid on that loan is also tax-deductible.
How to Maximize Your Interest Deduction
Now that you know about the different types of interest deductions available in real estate, how can you make the most of them to save money on your taxes? Here are a few tips;
- Keep Good Records: To take advantage of any of these deductions, you need to be able to prove the interest you paid. Make sure you keep all your receipts, loan statements, and other documents related to the interest payments. You may also want to consider using a tax software program or hiring a professional tax preparer to help you keep track of your deductions.
- Pay Interest Early: If possible, try to pay your interest payments early in the year. This will allow you to deduct the full amount of interest paid on your tax return for that year. If you wait until the end of the year to make your payments, you may not be able to deduct all of the interest paid until the following year.
- Refinance Your Mortgage: Refinancing your mortgage can be a great way to take advantage of lower interest rates and reduce your monthly payments. It can also help you maximize your interest deduction. By refinancing, you can take advantage of a new mortgage with a lower interest rate, which will reduce your interest payments and increase your tax deduction.
- Use a HELOC: If you’re a real estate investor, using a HELOC can be a great way to access cash for your investment properties. HELOCs typically have lower interest rates than other types of loans, and the interest paid on them is tax-deductible. Just be sure to use the funds for a qualifying purpose to take advantage of the deduction.
- Consult a Tax Professional: Tax laws can be complex, and there may be some nuances to the deductions that you’re not aware of. To ensure that you’re taking full advantage of all the deductions available to you, consider consulting with a tax professional. They can help you understand the rules and identify strategies for maximizing your deductions.
In conclusion, interest deductions are one of the biggest deductions available to real estate investors and homeowners. By taking advantage of these deductions, you can save a significant amount of money on your taxes each year. Be sure to keep good records, pay interest early, refinance your mortgage, use a HELOC, and consult a tax professional to maximize your deductions and keep more money in your pocket.