The bright side of higher mortgage interest rates: bigger deductions on taxes this year

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Mortgage rates have risen during the economic recovery from the pandemic, but growing numbers of homeowners facing hefty interest payments this year may find some relief depending on how they file their tax returns.

Thanks to the mortgage interest deduction, filers who choose to itemize their tax returns instead of taking the standard deduction can deduct the entire interest payments on their home as well as take other write-offs.

Some tax experts say it’s likely to be a more attractive option for more tax filers this season.

Atiya Brown, certified public accountant and owner of The Savvy Accountant, said mortgage holders with higher interest payments are likely to get the best returns by itemizing, rather than taking the standard deduction, a comparison she shows her clients.

“I definitely think a lot of people will see the difference,” Brown said.

She added that she expects more applicants will seek professional help this season. Choosing to itemize mortgage interest means having to itemize other sections of tax returns as well, which can add enough complexity to require an accountant, Brown said.

The upside of paying high interest

The standard deduction is a specific dollar amount set by the IRS each year that filers can use to reduce their tax burden. It is designed to save you the time and resources often needed to itemize deductions.

For tax year 2023, the standard deduction is $13,850 for single filers and $27,700 for married taxpayers filing jointly. But many homeowners may find that the mortgage interest deduction is a better option.

So a single applicant paying a 4% interest rate on a $500,000 home loan – the equivalent of monthly interest payments of about $1,667, or $20,000 annually – could end up with significant savings.

Many families pay higher rates.

While mortgage rates have been falling since reaching a post-pandemic high of 7.8% last fall, the 30-year mortgage rate still currently hovers above 6%.

Until the Tax Cuts and Jobs Act, passed by Republicans in 2017, the mortgage interest deduction could be applied to the first $1 million of the loan for a single filer and $500,000 for couples filing separately.

Today, this only applies to the first $750,000 of a typical mortgage loan for single applicants, or $375,000 for couples filing separately. The change was intended to allow more people to take the standard deduction, which the TCJA also increased.

But the relevant part of the law expires in 2025 and will result in the limit returning to $1 million — and there’s no indication yet that Congress will keep the current limit. According to the Bipartisan Policy Center.

While many new homeowners may not be accustomed to itemizing their deductions, they are now more likely than ever to reap tax benefits from doing so, assuming… Many of them are among those living with high mortgage interest payments.

“Interest rates have gone up significantly — but more people will be eligible for (more) mortgage interest deductions,” Chavis said, especially new homebuyers.

What are the restrictions?

Principal payments and down payments cannot be deducted from your taxes. Closing costs, appraisal or insurance fees cannot be charged.

Mortgages on rental properties also cannot be deducted if it is not the filer’s primary residence.

Only the part of the house used for living can be counted toward the deduction. In other words, you can’t double deductible if you plan to write off any home office taxes.

However, late payment and prepayment penalties are deductible in many cases.

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