Want to ask a different question?
Hi Steve,
I'm Kelly - the tax guru.
That's a great point about the difference between a re-fi and a purchase for tax reasons. There are a number of nuances, as you pointed out. One that is often forgotten is that points that can be attributed to improvements in a re-fi are deductible in the year they are paid.
It's also important to realize that points paid by the seller are generally not deductible as interest but would count as an expense for purposes of figuring capital gains - extremely important if you're planning on staying only a few years!
The question of when to pay points is central to the mortgage selection process. The afore mentioned answer from JL12345 is mostly correct except you need to consider the tax implications of the points as well. Also, points are not technically an origination fee. Origination fees are line 801 of the HUD-1 settlement statement and points are line 802--though they are treated the same way. For a tutorial on points, see my blog post here Points are a tax deductible expense in the mortgage process. They are treated 2 different ways in residential real estate depending on whether the mortgage is a purchase money mortgage, or is a refinance. If the mortgage is a purchase money mortgage, you can deduct the points in the year that they are paid. If it is a refinance mortgage, you then need to deduct the points over the term of the loan.
Here is an example:
Loan Amount: $200,000
Points Paid: 1
Cost of points: $2000
Ordinary Income Tax Bracket: 25%
Loan Term: 30 Years
If the loan is a purchase: $2000 (points) x 25% (tax bracket)=$500.00 tax deduction this year.
If the loan is a refinance: $2,000 (points paid) x 25% (tax bracket)=$500
$500/30 years= $16.67/ year for 30 years.
As you can see, whether the mortgage is a refinance or purchase can make a big difference in the time it takes to break even!
Keep in mind that this is a very simple example. I am sure that Michael our tax guru could speak to the nuances.
For those of you who are really interested, you can read Tax Topic 504 on the irs.gov website.
That's Backwards.
Figure out how much you are going to save by subtracting payment for points scenario from scenario with no points and multiply that number by the number of months you plan on stying in the home.
(payment for scenario with no points)-(payment for scenario with points)=monthly savings
(monthly savings)x(#of months planning on staying in loan)=total saved
If the total saved is greater than the origination (points), you're golden. If it's not a very big savings, reevaluate.......
