Since purchasing a home is typically the largest purchase and among the most important financial decisions a family makes, tax benefits help offset some of the cost of homeownership. Just how do tax benefits reduce the cost of homeownership for individual homeowners and homebuyers for certain mortgage amounts and income levels?

Three major tax benefits for homeowners include: deductibility of mortgage interest, deductibility of real estate taxes, and the capital gain tax exclusion for principal residences. Taken together, these benefits significantly reduce the cost of homeownership. Each represents a significant provision of law. According to the Congressional Joint Committee on Taxation, for fiscal year 2008 the tax expenditure (approximately the size of the program in terms of tax savings) of the mortgage interest deduction totals $67 billion, the real estate tax deduction equals $24.6 billion, and the capital gain exclusion adds up to $16.8 billion.

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The largest benefit for most homebuyers is the ability to deduct home mortgage interest. The tax code permits homeowners who itemize their federal income tax deductions to reduce their taxable income by the annual amount of mortgage interest paid on a first (and second) home, up to $1 million in total home mortgage debt. Further, taxpayers may deduct interest allocable up to $100,000 of home equity loans. For the purpose of the Alternative Minimum Tax (AMT), taxpayers may deduct non-home equity loan interest from AMT taxable income as well. Itemizing homeowners may also deduct state and local real estate taxes paid on an owner-occupied home.

Taxpayers may exclude from capital gains taxation the proceeds from the sale of a principal residence and are limited in the amount of gains that may be excluded from tax: $500,000 of gain for married homeowners and $250,000 for single homeowners. Recent changes in tax law reduce these maximum exclusion amounts proportionally for the amount of time the home is actually used as a principal residence. Periods of ownership prior to Jan. 1, 2009 are treated as periods of principal residence use under a grandfathering rule included in the law.

Karen Nakamura is executive vice president / CEO of the Building Industry Association of Hawaii.

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