Advertiser Disclosure

Mortgage

Top Tax Benefits for Home Buyers

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

The Tax Cuts and Jobs Act of 2017 launched the most significant overhaul of the U.S. tax code in three decades. With the new law placing caps on home-related and other itemized deductions, while increasing the standard deduction across filing statuses, many homeowners could see a major shift in the way they prepare their tax returns this year.

It’s a good time for a refresher course on what to expect under the new regulations, which took effect for the 2018 tax year and will remain in place through the 2025 tax year.

Among the biggest changes for homeowners include the $10,000 cap on property-tax deductions and the elimination of many second-mortgage/home equity loan interest deductions. In turn, the standard deduction amount has increased, moving to $24,000 for joint filers (up from $12,700), $18,000 for head-of-household filers (up from $9,350) and $12,000 for single filers (up from $6,350). An additional standard deduction of $1,300 is available for elderly and blind taxpayers, a deduction that increases to $1,600 if the taxpayer’s filing status is single.

“Your overall itemizations have to be greater than the standard deduction to make it worthwhile,” said Tendayi Kapfidze, chief economist for LendingTree, which owns MagnifyMoney. “A lot of people will likely switch from itemization to just taking the standard deduction under the new tax regulations.”

And for those looking to buy in the next few years, the new tax code could make owning a home less appealing for some middle-income buyers who don’t qualify for assistance programs geared toward the lowest-income buyers. Without the ability to deduct all mortgage interest and property taxes on one’s tax return, renting might become the more affordable option.

“I think for buyers right on the margin, if you compare the cost of renting to owning, this could push them more in favor of renting for the time being,” Kapfidze said. “Without the itemized deductions, you’ll incur the full cost of the mortgage.”

Read below for a guide to the new tax law and how it can affect current homeowners and those considering buying a home in the next few years.

Mortgage interest deduction

Long touted as a benefit of homeownership, mortgage interest deductions give homeowners the opportunity to lower their taxable income by writing off the amount of interest paid on the mortgage for their primary residence and in certain cases, a second home. The ability to deduct mortgage interest is often mentioned to renters as an incentive for buying because rental payments cannot be written off and do not decrease taxable income.

Effective in tax year 2018, taxpayers can deduct interest on no more than $750,000 in qualified residence loans used to buy, construct or complete major improvements to a primary residence and a second home, if applicable. This is a decrease from the previous limit of $1 million. For married taxpayers filing separately, the new limit is $375,000, compared with the previous limit of $500,000. This regulation applies to loans taken out after Dec. 16, 2017, through the 2025 tax year; older loans are grandfathered in under the past rules.

While most homeowners won’t be affected by this shift, as the average monthly mortgage payment nationally is about $1,029, the rule change for second-mortgage loan deductions might have more impact.

Whether you can still deduct interest from home equity loans or second mortgages depends. Confusion reigned — and might still — when the new regulations were passed, as they appeared to wipe out the possibility of deducting any interest. An IRS memo in February 2018 clarified that taxpayers can deduct interest on a home equity loan, home equity line of credit, or HELOC, or second mortgage of up to $100,000 if that loan is used to “buy, build or substantially improve the taxpayer’s home that secures the loan.”

Using the IRS examples, if you take out a second mortgage to build a new deck on your home, your interest would be deductible. But, if you obtained a second mortgage to pay down personal debt or gain money for another purchase, the interest would not qualify. The grandfathering rule would apply to older home equity loans/second mortgages only if the funds were used for substantial home-related improvements.

What Mortgage Amount Do you Need?
Calculate Payment Secured

on LendingTree’s secure website

Property-tax deduction

State and local taxes, which include property taxes, can still be deducted under the new tax code. But there are changes to the state and local taxes (SALT) deduction — under the new regulations, taxpayers are limited to $10,000 in SALT write-offs, which include the sum of real property taxes, personal property taxes and either state or local income taxes or state and local sales tax.

Homeowners in higher-tax states, which often have higher home values as well, could feel the pain on this one, as the full amount they deducted in the past could be significantly reduced. Like mortgage interest, the property-tax deduction was an itemized deduction, and more taxpayers might find that $10,000 in SALT deductions, mortgage interest and other write-offs might still be less than the new standard deduction amount — but still lower overall than the previous full total of SALT deductions, mortgage interest and other eligible write-offs.

Tax-free profits

If you make a profit from selling your home, you could exclude up to $250,000 of your capital gain from your income, or up to $500,000 if you file jointly with your spouse. Homeowners should own and have lived in the home for at least two years out of the last five prior to the sale date. You also can’t have exempted capital gains on a different home sale in the past two years.

For the joint deduction, the co-owner has to have lived in the home for at least a two-year period as well. Any sale that takes place under a year would be considered a short-term capital gain, and subject to being taxed.

In other words, the new tax law shouldn’t have much effect on your home sale. There’s also a new exemption for special circumstances — such as the death of a spouse — that gives you two years instead of one after a spouse’s death to sell a home and qualify for the full $500,000 in exemptions.

Moving expenses

Say goodbye to this deduction altogether, unless you are an active-duty member of the Armed Forces moving pursuant to a military order. Taxpayers can no longer deduct moving expenses to start a new job, while in the past, they could deduct expenses that weren’t reimbursed or prepaid by an employer.

Consider the potential change in tax-bracket status if you do accept a new job and have an employer paying for your move. Qualified moving expense reimbursements are no longer excluded from gross income and wages, and employers who pay for an employee’s move must now include those costs as part of employee income.

Other benefits

Homeowners can still take advantage of other benefits that remain unchanged by the new tax law. Those in lower income brackets could receive a state-issued Mortgage Tax Credit Certificate as part of their mortgage loan to earn up to $2,000 in tax credits per year. Unlike the mortgage interest deduction, this credit can be claimed even if you take the standardized deduction.

Mortgage insurance deductions typically have required a year-to-year renewal by Congress. The Bipartisan Budget Act of 2018, passed on Feb. 9, 2018, extended the write-off for the 2017 tax year, but no extension action has been taken at time of publication (mid-January 2019) for the 2018 tax year.

Conclusion

Most homeowners will experience changes in the way they prepare their taxes for 2018 due to the new tax-code regulations. While new mortgage-interest deduction limits shouldn’t have a significant effect on the majority of homeowners, the $10,000 cap on property-tax deductions could have a major impact.

And, with the increase in the standard deduction, it might not be worth it for many homeowners to itemize deductions at all.

As for potential homebuyers, LendingTree’s Kapfidze said that owning a home is still worth the effort in the long term, despite the lack of immediate tax benefits that made ownership more appealing than renting for many. Ironically, the loss of longstanding tax breaks across the board could indirectly encourage more Americans to buy a home for a different reason.

“It could be very beneficial if homes appreciate at a slower rate due to decreased demand and homes then become more affordable,” he said.

This article contains links to LendingTree, our parent company.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

Shannon Shelton Miller
Shannon Shelton Miller |

Shannon Shelton Miller is a writer at MagnifyMoney. You can email Shannon here

Compare Mortgage Loan Offers for Free

Home Purchase Quotes

Home Refinance Quotes

(It only takes 3 minutes!)

NMLS #1136 Terms & Conditions Apply

Advertiser Disclosure

Mortgage

Should You Save for Retirement or Pay Down Your Mortgage?

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

Getty Images

On the list of financial priorities, which comes first — paying off your mortgage or saving for retirement? The answer isn’t simple. On one hand, owning a home with no mortgage attached to it provides long term security knowing you’ll have a place to live with no monthly payment except property taxes and insurance. However, you’ll also need income to live on if you plan to retire, and how much you save now will have a big impact on your quality of retirement life.

We’ll discuss the pros and cons of whether you should save for retirement or pay down your mortgage, or maybe a combination of both.

Pros of paying down your mortgage vs. saving for retirement

The faster you pay your mortgage off, the sooner you own the home outright. However, there are other benefits you’ll realize if you take extra measures to pay your loan balance off faster.

You could save thousands in long-term interest charges

Most homeowners take out a 30-year mortgage to keep their monthly payments as low as possible. The price for that affordable payment is a big bill for interest charged over the 360 payments you’ll make if you’re in your “forever” home.

For example, a 30-year fixed $200,000 loan at 4.375% comes with a lifetime interest charge of $159,485.39. That’s if you never pay a penny more than your fixed mortgage payment for that 30-year period. Using additional funds to pay down your mortgage faster can significantly reduce this.

Even one extra payment a year results in $27,216.79 in interest savings on the loan we mentioned above. An added bonus is that you’ll be able to throw your mortgage-free party four years and five months sooner.

You’ll build equity much faster

Thanks to a beautiful thing called amortization, lenders make sure the majority of your monthly mortgage payment goes toward interest rather than principal in the beginning of your loan term. Because of that, it’s difficult to make a real dent in your loan principal for many years. You can, however, counteract this by making additional payments on your mortgage and telling the lender to specifically put those payments toward your principal balance instead of interest.

Not only do you pay less interest over the long haul with this strategy, but you build the amount of equity you have in your home much faster. And to homeowners, equity is gold — you’re closer to owning your home outright, and equity can also be a resource if you need funds for a home improvement project or another big expense.

You can access that equity as your financial needs change by doing a cash-out refinance or by taking out a home equity loan or home equity line of credit (HEL or HELOC).

You won’t lose your home if values drop

When you contribute extra money into a retirement account, there is always the risk that you’ll lose some or all of the money you invested. When you contribute money to paying off your mortgage, even if the values drop, you still have the security of a place to live, and are increasing the equity in the home, no matter how much it’s ultimately worth.

Making extra payments ensures you’ll eventually have a debt-free asset that provides shelter to you and your family, regardless of what happens to the housing market in your neighborhood.

Cons of paying down your mortgage vs. saving for retirement

There are some cases where paying down your mortgage faster might actually hurt you financially. Before adding extra principal to your mortgage payments, you’ll want to make sure you aren’t doing damage to your financial outlook with an extra contribution toward your mortgage payoff.

You might end up paying more in taxes

The higher interest payments you make during the early years of your mortgage can act as a tax benefit, so paying the balance down faster could actually result in you owning more in federal taxes. If you are in a higher tax bracket in the early (first 10 years) of your mortgage repayment schedule, it may make sense to focus extra funds on retirement savings, and let your mortgage interest deduction work for you. Of course, everyone’s tax situation is different, so you’ll have to decide (with help from an accountant ideally) if it makes sense to itemize your taxes in order to claim mortgage interest payments as a deduction.

You won’t get to enjoy the return on your paydown dollars until you sell

The only real benchmark for figuring out the value of paying down your mortgage is to look at how much equity you’re gaining over time. However, the equity doesn’t become a tangible profit until you actually sell your home. And the costs of a sale can take a big bite out of your equity because sellers usually pay the real estate agent fees.

Home equity is harder to access

The only way to access the equity you’ve built up is to borrow against it, or sell your home. Borrowing against equity often requires proof of income, assets and credit to confirm you meet the approval requirements for each equity loan option. If you fall on hard financial times due to a job loss, or are unable to pay your bills and your credit scores drop substantially, you may not be able to access your equity.

Pros of saving for retirement vs. paying down your mortgage

Depending on your financial situation and savings habits, it may be better to add extra funds monthly to your retirement account than to pay down your mortgage. Here are a few reasons why.

You may earn a higher return on dollars invested in retirement funds

The growth rate for a stock portfolio has consistently returned more than housing price returns. The average return in the benchmark S&P stock fund is 6.595% for funds invested from the beginning of 1900 to present, while home values have increased just 0.1% per year after accounting for inflation during that same time period.

Assuming your portfolio at least earns 7%, if you consistently invest your money into a balanced investment portfolio, you can expect to double your money every 10 years. There aren’t many housing markets that can promise that kind of growth.

Retirement funds are generally easier to access than home equity

Retirement funds often give you a variety of options for each access, with no income or credit verification requirements, and only sufficient proof of enough funds in your account to pay it back over time. For example, a 401k loan through the company you work for will just require you to have enough vested to support the loan request, and sufficient funds left over to pay it off over a reasonable time.

Just be cautious about making a 401k withdrawal, which is treated totally differently than a loan. You aren’t expected to pay it back like you would a 401k loan, but you could get hit with taxes and penalties.

Cons of saving for retirement vs. paying down your mortgage

You’ll need to weather the ups and downs of the market

Most people who have invested money in the stock market or tracked the performance of their 401k over decades have stories about periods when the value of those investments dropped substantially. While the 7% return on investment is a reliable long term indicator how much your retirement fund might earn, the path to that return is hardly linear.

For example, if you were considering retirement between 1999 and 2002, you may have had to delay those plans when the S & P plummeted over 23% in value in 2002. If you look at each 10-year period since the 1930s, every decade has been characterized by periods of ups and downs.

Calculating the benefit of paying down your mortgage vs. saving for retirement

If you’re torn as to what to do with that extra cash or windfall, let’s look at an example of someone who has an extra $200 to put into either their nest egg or their mortgage each month for the next 30 years.

For this scenario, we’re going to assume their retirement account earns an average 7% rate of return and that their mortgage loan balance is $200,000.

Here’s how much they’d save:

Savings From Paying $200 per Month Down on Your Mortgage
Years PaidMortgage Interest SavingsExtra Equity in HomeTotal Interest Savings and Equity Built Up
10 years$6,040$30,039$36,079
20 years$28,529$76,529$105,058
22 years 6 months$50,745$200,000$250,745

One thing you may notice about the mortgage savings chart — it includes how much extra equity you’re building. Often only the mortgage interest savings is cited when people look at how much you save with extra payments, but that ignores the fact that you’re building equity in your home much faster as well. So not only do you save over $50,000 in interest with your extra contribution, you replenish $150,000 of equity that was used up by your mortgage balance.

As you can see, adding that extra $200 to their mortgage principal each month saved them about $200,000 in the long haul — but the real savings don’t stop there.

By adding an extra $200 to their mortgage payment each month, this borrower turned their 30-year loan into a 22-and-a-half year loan and became mortgage debt-free seven years faster.

That means, in addition to saving $50,000 in interest savings and gaining $200,000 of equity, they also no longer have a mortgage payment. That frees up $998.57 per month that they can now use as discretionary income. That’s an extra $89,871 they could potentially save over that 7.5 year period.

When you add that to the $250,745.41 they saved on mortgage interest and earned in home equity, they’re looking at a total savings of $340,616.

That gives the mortgage paydown a $54,000 net positive edge over saving that extra $200 for retirement, as you can see in the table below.

Savings From Contributing $200 per Month to a Retirement Fund
Years PaidRetirement Balance
10 years$34,404
20 years$102,081
30 years$235,212

The one caveat for this retirement calculation is we assumed the saver was starting at a $0 investment balance. If they already had a healthy balance in their nest egg, they might actually come out in better shape than paying down their mortgage.

There are clearly benefits to each option, and you should consider running your own calculations with your real numbers to get the best answer for yourself.

Paying down your mortgage and saving for retirement at the same time

There’s a fair case to be made for both paying down your mortgage and saving more for retirement, but why choose? If you’re somewhat on track with your retirement savings goals, and like the idea of having your mortgage paid off quicker, you could allocate a certain amount to each.

Pick a number you feel comfortable paying to your principal every month, and then to your 401k, and put it on autopilot for a year. Any time your income increases, or you get bonuses, divide up the amount between principal pay down and retirement additions.

Let’s look at what happens if you evenly divide up your $200 per month between investing your retirement and paying down your mortgage. We’ll use the same $200,000 loan at 4.375% referenced above, and look at the lifetime results.

Savings From Paying $100 Down on Your Mortgage Until Paid Off
Years PaidInterest SavingsExtra Home EquityTotal Interest Savings and Equity Built Up
10 years$3,020$15,020$18,040
20 years$14,265$38,265$52,350
25 years$30,534$200,000$230,534
Savings From Contributing $100 to a Retirement Fund for 30 Years
Years PaidRetirement Balance
10 years$17,202
20 years$51,401
30 years$117,607

Balancing the $100 investment in both strategies still yields a six-figure retirement balance after 30 decades, a debt-free house after 26 years, and shaves off $30,000 in mortgage interest expense. If you don’t like putting all your eggs into one financial basket, this may balance the risks and rewards of each option.

Final thoughts

Looking at the short term and the long term may provide you with the best framework for making a good decision about how to spend dollars on retirement versus extra mortgage payments. Be wary of any financial professional that tells you one path is absolutely better than another.

Having a stable source of affordable shelter is equally as important as having enough income to live when you retire, so a balanced approach to paying down your mortgage and savings for retirement may help you accomplish both goals.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

Denny Ceizyk
Denny Ceizyk |

Denny Ceizyk is a writer at MagnifyMoney. You can email Denny here

Compare Mortgage Loan Offers for Free

Home Purchase Quotes

Home Refinance Quotes

(It only takes 3 minutes!)

NMLS #1136 Terms & Conditions Apply

Advertiser Disclosure

Life Events, Mortgage

What Is Mortgage Amortization?

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

Getty Images

One of the biggest advantages of homeownership versus renting is each mortgage payment gradually pays off your mortgage and builds equity in your home. The difference between your home’s value and the balance of your loan is home equity, and your equity grows with each payment because of mortgage amortization.

Understanding mortgage amortization can help you set financial goals to pay off your home faster or evaluate whether you should refinance.

What is mortgage amortization?

Mortgage amortization is the process of paying off your loan balance in equal installments over a set period. The interest you pay is based on the balance of your loan (your principal). When you begin your payment schedule, you pay much more interest than principal.

As time goes on, you eventually pay more principal than interest — until your loan is paid off.

How mortgage amortization works

Understanding mortgage amortization starts with how monthly mortgage payments are applied each month to the principal and interest owed on your mortgage. There are two calculations that occur every month.

The first involves how much interest you’ll need to pay. This is based on the amount you borrowed when you took out your loan. It is adjusted each month as your balance drops from the payments you make.

The second calculation is how much principal you are paying. It is based on the interest rate you locked in and agreed to repay over a set period (the most popular being 30 years).

If you’re a math whiz, here’s how the formula looks before you start inputting numbers.

Fortunately, mortgage calculators do all the heavy mathematical lifting for you. The graphic below shows the difference between the first year and 15th year of principal and interest payments on a 30-year fixed loan of $200,000 at a rate of 4.375%.

For the first year, the amount of interest that is paid is more than double the principal, slowly dropping as the principal balance drops. However, by the 15th year, principal payments outpace interest, and you start building equity at a much more rapid pace.

How understanding mortgage amortization can help financially

An important aspect of mortgage amortization is that you can change the total amount of interest you pay — or how fast you pay down the balance — by making extra payments over the life of the loan or refinancing to a lower rate or term. You aren’t obligated to follow the 30-year schedule laid out in your amortization schedule.

Here are some financial objectives, using LendingTree mortgage calculators, that you can accomplish with mortgage amortization. (Note that MagnifyMoney is owned by LendingTree.)

Lower rate can save thousands in interest

If mortgage rates have dropped since you purchased your home, you might consider refinancing. Some financial advisors may recommend refinancing only if you can save 1% on your rate. However, this may not be good advice if you plan on staying in your home for a long time. The example below shows the monthly savings from 5% to 4.5% on a $200,000, 30-year fixed loan, assuming you closed on your current loan in January 2019.

Assuming you took out the mortgage in January 2019 at 5%, refinancing to a rate of 4.5% only saves $69 a month. However, over 30 years, the total savings is $68,364 in interest. If you’re living in your forever home, that half-percent savings adds up significantly.

Extra payment can help build equity, pay off loan faster

The amount of interest you pay every month on a loan is a direct result of your loan balance. If you reduce your loan balance with even one extra lump-sum payment in a given month, you’ll reduce the long-term interest. The graphic below shows how much you’d save by paying an extra $50 a month on a $200,000 30-year fixed loan with an interest rate of 4.375%.

Amortization schedule tells when PMI will drop off

If you weren’t able to make a 20% down payment when you purchased your home, you may be paying mortgage insurance. Mortgage insurance protects a lender against losses if you default, and private mortgage insurance (PMI) is the most common type.

PMI automatically drops off once your total loan divided by your property’s value (also known as your loan-to-value ratio, or LTV) reaches 78%. You can multiply the price you paid for your home by 0.78 to determine where your loan balance would need to be for PMI to be canceled.

Find the balance on your amortization schedule and you’ll know when your monthly payment will drop as a result of the PMI cancellation.

Pinpoint when adjustable-rate-mortgage payment will rise

Adjustable-rate mortgages (ARMs) are a great tool to save money for a set period as long as you have a strategy to refinance or sell the home before the initial fixed period ends. However, sometimes life happens and you end up staying in a home longer than expected.

Knowing when and how much your payments could potentially increase, as well as how much extra interest you’ll be paying if the rate does increase, can help you weigh whether you really want to take a risk on an ARM loan.

The bottom line

Mortgage amortization may be a topic that you don’t talk about much before you get a mortgage, but it’s certainly worth exploring more once you become a homeowner.

The benefits of understanding how extra payments or a lower rate can save you money — both in the short term and over the life of your loan — will help you take advantage of opportunities to pay off your loan faster, save on interest charges and build equity in your home.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

Denny Ceizyk
Denny Ceizyk |

Denny Ceizyk is a writer at MagnifyMoney. You can email Denny here

Compare Mortgage Loan Offers for Free

Home Purchase Quotes

Home Refinance Quotes

(It only takes 3 minutes!)

NMLS #1136 Terms & Conditions Apply