TAX TIME

Homeownership provides you with more than a roof over your head and a place to call home. If you plan ahead, your home can be one of the best investments you'll ever make. Additionally, you can also take advantage of many tax breaks available when you buy, sell or improve your home and then file your annual tax returns. New and updated tax legislation was passed or went into effect in 2009 that can decrease your tax bill. Be sure to review the summarized tax information in our Special Edition tax issue to become familiar with benefits that you may qualify for.

If you already own a home, we hope this tax issue of our newsletter will remind you about home-related deductions you are entitled to. Perhaps you'll also learn about some opportunities you were not aware of so you can make sound financial decisions in the future.

If you are thinking of buying a home, this tax issue will summarize the various home-related tax benefits you can enjoy as a home owner. With historically low interest rates, now may make the most sense for you to buy a home and take advantage of the tax benefits when you file your income tax next year.

No matter what your financial situation or home ownership status, be sure to consult with a knowledgeable tax/financial professional and the Internal Revenue Service about your specific tax questions. Information outlined in this newsletter was accurate at press time, but be aware that tax rules and laws are subject to change.

Taxpayers who sell their principal residence can pocket -- tax-free -- as much as $500,000 in profit if they file federal taxes jointly, or $250,000 if they file singly. The property must have been owned and used as their principal residence for any two of the prior five years. Homeowners can shelter the profits on the sale of a home as often as once every two years. If the two-year use and ownership tests are not met, but the home is sold because of special circumstances (i.e., health problem, job loss, etc.), the exclusion is prorated. Otherwise, gains above $500,000 or $250,000 are taxed at current capital gains rates.

NEW RULE #1: The Housing and Economic Recovery Act of 2008 changed the treatment of capital gains from the sale of a home that the owners sometimes used as a principal residence and sometimes used as a second home or rental property. Gains attributable to the period of second home or rental use on or after January 1, 2009 will be taxed at capital gains rates, while gains attributable to principal residence use may be excluded up to the $500,000 or $250,000 limits (providing ownership and use tests are met).

To compute the mixed-use gains tax, divide total days of property use as a second home or rental ("non-qualified" use) by total days the home was owned (from the original purchase date). Then multiply total gain by that ratio to calculate the taxable gain. For example, you sell a home after owning it four years (1,460 days) and using it as a rental property or second home (rather than principal residence) for three months (say, 91 days). Your ratio: 91/1460 = .062. If your total capital gain is $50,000, then your taxable gain is $3,100 ($50,000 x .062 = $3,100).

NEW RULE #2: For sales or exchanges after December 31,2007, surviving spouses now may exclude gains up to $500,000 from a principal residence jointly owned with the deceased spouse, providing the property is sold or exchanged within two years of the spouse's death and standard ownership and use tests are met. (Previously, to claim up to $500,000, the surviving spouse had to sell or exchange the property within the tax year of the spouse's death.)

HINT: Homeowners should continue to maintain records of selling and improvement expenses because some states still tax capital gains on home sales. In addition, those expenses can be used to determine your tax basis once you sell or rent the home.

Interest payments on your original mortgage -- assuming the mortgage isn't larger than the home's purchase price and improvement costs -- are fully deductible for most homeowners. That's a key reason why homeownership is a superb tax shelter. Mortgage interest on a second home is also deductible, as explained in the “VACATION HOMES” section. If you own a third home for personal purposes, the mortgage interest is not deductible. Interest on home equity loans (see “EQUITY LOANS” section) is deductible with some limitations.

HINT: For mortgages taken out more than 90 days after a home purchase, your interest deduction is usually limited to the amount of the original (acquisition) mortgage plus $100,000. However, if you use some of the new mortgage to improve your home, you can add that amount to the deduction limit.

On 2008 and 2009 returns, homeowners who take the standard deduction (rather than itemizing) can take an additional standard deduction -- up to $1,000 for married joint-filers, $500 for single filers -- for state and local property taxes. (Congress may extend this provision; consult your tax advisor.)

HINT: This deduction helps defray the cost of owning a home for homeowners who have no mortgage or have low mortgage-interest expenses that, together with other deductions, do not exceed the standard deduction.