There are a lot of things that can be confusing about buying your first home. It can feel as if you’re required to learn a whole new language full of acronyms and unfamiliar terminology. When you add in the financial stress of making what is undoubtedly the largest purchase of your life, it’s a lot.
At Addition Financial, we’re here to help. Two of the things that we get asked about a lot are the first time homebuyer credit and mortgage discount points. We think it’s important for every first-time homebuyer to be educated about these things. Here’s what you need to know.
What is the First Time Homebuyer Credit?
When you buy a home for the first time, you may be eligible for an income tax credit when you file your federal tax return. In the past, the First Time Homebuyer Credit was available. It was part of the economic stimulus package passed in 2008, and it allowed first-time homebuyers to take up to a $7,500 credit on their taxes. The credit expired in 2010.
It is worth noting that the expired credit functioned like a loan for some homebuyers, who were approved in 2008 and required to pay the credit back over ten years. It did not apply to homeowners who paid more than $800,000 for their homes.
Tax Credits for Florida Homebuyers
There’s still good news for homebuyers in Florida. There are multiple tax credits available and you may be able to take advantage of them.
Florida Housing Mortgage Credit Certificate Program
The Florida Housing Mortgage Credit Certificate Program is a program for first-time homebuyers in Florida. It allows first-time buyers (and some others) to claim 10% to 50% of their mortgage interest as a federal tax credit.
The program has income limits and purchase price limits that vary by county, and you can find detailed information here. The credit maxes out at $2,000.
Mortgage Insurance Premium Tax Deduction
The Mortgage Insurance Premium Tax Deduction originally expired in 2017 but was resuscitated by Congress in 2019. This deduction allows you to get a tax deduction for mortgage insurance premiums totaling $600 or more. To qualify, you must:
- Have purchased your home since 2007
- Have income of $100,000 or less if married filing jointly, $50,000 or less if single
To take this deduction, you must itemize your deductions on your 2020 tax return. As a reminder, you should itemize only if your itemizations total more than your standard deduction.
Mortgage Interest Credit
If you have a qualified Mortgage Credit Certificate, you may be eligible for a mortgage interest credit on your federal tax return.
To qualify, you must have a MCC from your county or municipality. This credit is aimed at low and medium-income families and is designed to help ease the financial burdens of homeownership.
Mortgage Interest Tax Deduction
Florida homeowners who itemize their deductions may be eligible to deduct some or all of their mortgage interest. For 2020, the interest is deductible for a home that is worth $500,000 or less for individual taxpayers and $1 million or less for married couples filing jointly.
Mortgages that qualify must meet one of three requirements:
- Grandfathered mortgages taken out on or before October 13, 1987.
- Mortgages taken out after October 13, 1987 but before December 16, 2017, provided that the mortgages plus any grandfathered debt total less than $1 million ($500,000 if married filing separately)
- Mortgages taken out after December 16, 2017, provided that the mortgages plus any grandfathered debt total less than $750,000 ($375,000 if married filing separately.)
This deduction is separate from the Mortgage Interest Credit.
Real Estate Taxes
Local and state real estate taxes are also deductible. First-time homebuyers often pay their real estate taxes through an escrow account as part of their closing.
You may deduct real estate taxes up to $10,000, or $5,000 if married filing separately. If you moved into your home in the middle of the year, you would have paid prorated taxes and your deduction will likewise be prorated.
You can find details on how to calculate your real estate deduction here.
Closing Costs and Points
Finally, if you bought a home in 2019, you may be able to deduct your closing costs. According to the IRS, the following expenses are deductible:
- Points or loan origination fees
- Prepaid mortgage interest
- Prepaid real estate taxes (as noted above)
You can find the full details to help you calculate your deduction here.
What Are Mortgage Discount Points?
When you start to research the homebuying process, you’ll probably see many mentions of mortgage discount points. They are sometimes referred to as mortgage points and discount points – and all three terms can be used interchangeably. That doesn’t help make it less confusing!
Let’s start with the basics. Mortgage discount points – by any name – offer homebuyers a way to reduce the interest rate on their mortgage by buying points at the closing.
While every bank and lender has its own pricing structure, in most cases you can buy one point for 1% of the purchase price. The point itself is not worth a full percentage point off your interest. Instead, you can expect a .25% reduction in your interest rate.
Let’s look at an example. Say you’re buying a home for $250,000 with a base interest rate of 5%. If you bought one mortgage point for $2,500 (1% of purchase price), it would reduce your mortgage rate to 4.75% (.25% reduction. Here’s how the savings would work:
- Monthly payment with 5% interest = $1,342.00
- Monthly payment with 4.75% interest = $1,304.00
- Monthly payment with 4.5% interest = $1,267.00
A practical way of looking at it is that if you bought one point, you would break even in just under 66 months. If you bought two points, you would break even in just under 67 months. Over a 30-year term, you would save thousands of dollars in interest.
Should You Buy Mortgage Points?
You might look at the numbers we’ve provided and think that it’s always a good idea to buy mortgage discount points. However, there are some circumstances where it wouldn’t make sense.
An obvious deal-breaker for mortgage points would be if you were planning to renovate a house and sell it quickly. If you worked on the home for a year and then sold it, you’d still be more than 50 months shy of your break-even date. That would mean you’d be out the money you spent on the points.
The same would be true if you’re uncertain about how long you’ll be in a home – for any reason. If you don’t stay long enough to break even, you won’t be saving money.
Of course, another potential downside to buying points would be that you would need to have the money to do so up front, in addition to your down payment and closing costs. For many people, that kind of financial investment isn’t possible.
Can You Negotiate Mortgage Discount Points?
One question we hear a lot from our Addition Financial members has to do with negotiating mortgage discount points. This is a question without a fixed answer, but there are some things you should know.
The first point is that you may be able to negotiate points with your lender, but that depends on the lender. You’ll find that most lenders charge 1% of the purchase price for a .25% reduction in the mortgage rate, but you won’t know unless you ask.
The second point is that most lenders put a limit on how many mortgage points you can buy. If you have cash to spare and you know you’ll be in your home for years to come, then it may be worthwhile to buy the maximum allowable number of points.
The third thing to keep in mind – and this is more of a warning than anything else – is that some lenders include mortgage discount points in their advertised rates. It’s extremely important to read the fine print. A lender advertising a 3.5% mortgage interest rate may be assuming you’ll buy several discount points to get there. If you’re not prepared to do so, your rate will be higher than the advertised rate.
Can You Deduct Mortgage Discount Points on Your Taxes?
The final thing you need to know about mortgage discount points is that, if you itemize deductions on your income tax return, you may be able to deduct some of the cost on your taxes.
In most cases, you will be limited to the amount you borrowed to buy the home. If you’re not sure whether you qualify, you should ask an accountant or tax attorney.
When you buy a home, make sure you understand the tax credits and deductions you are eligible to take, as well as the benefits and potential risks of buying mortgage discount points. If you have questions, we’re here to help.
Preparing to buy your first home? Click here to read about Addition Financial’s mortgages for first-time homebuyers.
Posted on Apr 15, 2020
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