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Mortgage Interest And Points Paid:Tax Deductible?



I often get asked questions about how much mortgage interest is deductible and what size loan to use when financing a home purchase. Also it is common to get into a discussion about if paying points to pay down interest make sense and if they are deductible. 

While every situation is different with regard to mortgage size, and I am a fan of getting the largest mortgage that one can possibly afford in most cases but not all, I will tackle the deductible nature of interest and points here to clarify how it works.

Mortgage Interest: Interest paid on a qualified residence is limited to interest on the acquisition indebtedness secured by a principal or secondary residence up to a maximum debt level of $1,000,000, plus home equity indebtedness secured by a principal or secondary residence up to a maximum debt level of $100,000.

Points Paid: Points paid on a loan are really nothing more than prepayments of interest. Generally points must be capitalized and amortized over the life of the loan. However, the points incurred on a loan that is used to buy or improve a principal residence generally are deductible in the year the points are paid. 

Points Paid on Refinance: These points must be deducted ratably over the life of the loan (amortized). If it is a second refinance the un-amortised (not deducted) points from the first refinance are deductible in full when the first refinance loan is paid off.

Choosing to pay down loan interest by paying points can help lower a payment to a level that is more affordable. Often I suggest that not doing so is the better decision. Buyers will have use of the funds used to pay the points and often through investment may be able to generate a better return on those funds than paying down the points would generate over time. However, doing so really is specific to the home purchasers own situation. In many cases, home purchases are as much an emotional decision as they are a financial decision and if paying down points to make a payment more affordable gets a buyer in the home they love and want that may in itself make paying points well worth it.



Mortgage Underwriting: Asset Depletion



Qualifying for a mortgage loan has gotten more and more difficult since the real estate bubble in the early and mid 2000's lead to the great recession. Many different underwriting techniques that were previously common to see have become less common these days. One such technique, Asset Depletion, is one of those less commonly found in today's mortgage lending community.

Asset depletion is a technique originally designed to allow borrowers who are asset heavy and employment income light to qualify for a mortgage. This technique was especially beneficial for business owners who show low income levels or wealthy individuals with insufficient income or difficulty providing a qualifying employment history.

Today the ability show great amounts of income and several years of history of it tend to dominate what lenders are looking for. However some lenders are willing to use asset depletion techniques to help borrowers qualify for their loans.

Asset depletion is a calculation where a borrower's liquid assets are entered into a calculation to bring up the amount of monthly income they have in order to make mortgage payments. Generally the calculation is a borrowers total assets divided by a set number of months, such as 360 for the standard 30 year loan. Qualifying assets tend to be only liquid assets such as cash, investment accounts and retirement accounts. 100% of the assets in cash accounts and non retirement liquid investment accounts typically qualify. For retirement accounts the amount that qualifies is generally about 70% of the asset base and could potentially be close to 100% if the borrower is over 591/2 years old. Check with your lender to see what they are willing to use in their calculation. 

For instance a borrower who has $1,000,000 in liquid assets and $500,000 in retirement assets may have qualifying monthly income of $3,750. ($1,000,000 + $350,000=$1,350,000; divided by 360)

This is an underwriting technique and does not require the borrower to actually deplete their asset base to make payments.

Asset depletion is not a gurantee to mortgage approval. It is a technique that only helps satisfy the income portion of the underwriting process. Lenders that use this technique often need a good understanding of the borrowers specific situation before they would even grant using this technique as part of the potential approval process.


Common Mortgage Types and Description


Mortgage Types

Source: College For Financial Planning

General Mortgage Underwriting Guidelines

Debt can be an important tool if managed well. It helps people obtain what they want, manage outflows of money, or it could be a drain on resources. The best use of debt is for large purchases that normally create equity, such as a mortgage when buying a home. The use of debt such as credit cards needs to be actively managed so it does not get out of control.

Common Mortgage Underwriting Guidelines:

Many loan officers use the following rules of thumb in assessing whether a home mortgage will be offered to a borrower.

Mortgage- Rules of Thumb