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Are Points Deductible? Probably. An Internal Revenue Code section allows homebuyers to deduct interest paid in advance (points) on mortgages to buy or improve a main home and for which the mortgage is secured by that home. The term "points" are also referred to as loan origination fees, maximum loan charges or premium charges.
To satisfy the IRS requirement, in addition to the above, all of the following must be satisfied for points to be deductible:
1. The payment of points must be an established business practice in the area where the loan was made;
2. The points paid must not exceed the number of points generally charged in this area;
3. The points must be computed as a percentage of the principal amount of the mortgage; and
4. If the loan was used to buy your main home, you must have provided funds at the time of closing other than those obtained from your lender or mortgage broker at least equal to the points charged. For this purpose, funds you provide do not have to be applied as payment of points at closing. They may be applied as down payments, escrow deposits, earnest money applied at closing, and other funds actually paid over at closing.
The rule above also applies to a loan origination fee charged for services for obtaining a VA or FHA loan to buy your main home. Also, these special rules do not apply to points on loans secured to purchase a second home. You can only deduct these points over the life of the loan.
Example: Assume Mr. and Mrs. Homebuyer buy their dream house in 2002 with the help of a $100,000 mortgage that required them to pay two points ($100,000 X 2 percent = $2,000). These points did not represent a charge for lender services; rather, they represented a charge for the use of the money, or prepaid interest. So in the case of Mr. and Mrs. Homebuyer, the payment requirement is satisfied if they put up cash of at least $2,000 for any purpose. For instance, if they put up at least $2,000 for earnest money deposit, down payment, escrow deposits, or cash actually paid at settlement, they’ll satisfy the requirement, and they can deduct the amount of the points on their 2002 tax return.
To ensure the full deductibility of points in the year of purchase, homebuyers need only pay cash -- in the forms mentioned here -- in an amount at least equal to the points.
Please consult your own tax attorney regarding this issue, as personal circumstances and the tax code may vary.
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