Refinancing a Mortgage — What Is Deductible?

Many homeowners are looking at the historically low interest rates on home mortgages and are refinancing their mortgages before rates start creeping back up. If you recently refinanced your mortgage or are considering doing so, you’ll want to understand the general tax rules for deducting the costs associated with refinancing.

Interest

Assuming you refinance debt that you incurred to buy, build, or substantially improve your main or second home, and that is secured by that home, interest on the refinanced debt is generally deductible. However, there are limitations on the amount of debt that can qualify for the interest deduction. First, it can’t be more than the amount of the original debt that has been refinanced. Additionally, the debt can’t exceed:

• $1 million ($500,000 for married taxpayers filing separately), if the original mortgage that has been refinanced was taken after October 13, 1987, but before December 16, 2017; or
• $750,000 ($375,000 for married taxpayers filing separately), if the original mortgage that has been refinanced was taken after December 15, 2017.

To deduct home mortgage interest, you must itemize deductions on your tax return. When you add up all of the individual deductions that you qualify for, they may or may not be more than the amount of the standard deduction for your filing status. If the total for the year is less than your standard deduction, then you will want to take the standard deduction.

Points

Mortgage points, also known as discount points, are fees paid directly to the lender at closing in exchange for a reduced interest rate. One point costs one percent of the mortgage amount (or $1,000 for every $100,000). Essentially, you pay some interest up front in exchange for a lower interest rate over the life of the loan. Points paid for the refinancing of your home mortgage are generally deductible over the life of the loan. If it is the second time you have refinanced your mortgage, any portion of the points you paid on the first mortgage that haven’t been deducted may be deductible in the year of the second refinancing.

Penalties and Fees

Generally, a prepayment fee paid on the old mortgage is considered a payment of interest on that mortgage and, therefore, is deductible in the year it is paid. However, other fees, such as those for credit reports, appraisals, and loan origination, are not deductible. Before refinancing, talk with a financial or tax professional who can crunch the numbers for you and help you determine the most opportune option available to you.