First-time home buyer Albert is a very detailed oriented client that doesn’t miss many details and wants to know exactly which closing costs are tax-deductible and which ones aren’t… what (if anything) should you say?

In general, Albert can deduct “points” (“loan origination” or “discount” points) used to obtain a mortgage when buying a home, prorated mortgage interest and prorated property taxes. Costs for specific services, such as appraisal, notary, credit, doc prep fees, etc., cannot be deducted, but may be added to the cost basis of the property to reduce capital gains tax in the future. 

When buying a home, points are deductible in the year they are paid, providing they meet certain conditions.  The main conditions are that the mortgage is secured by the home you live in most of the time and that you used this mortgage to either purchase or build your home.  However, your lender cannot inflate the points to include other items you would normally be charged.  When buying a home, there are normally other charges such as appraisal fee, title insurance fee, property taxes, settlement fees, and so on.  If by some miracle you are not charged these fees but your “points” are higher than normal, then you can’t deduct the points.  The cash you put into the deal must also exceed the amount charged in points.  In other words, if your points were $3000, but you only had to put in $2000 to close, the IRS knows something is up.  Also, if your lender is inflating your loan amount to cover your points, although they can technically do this, you wouldn’t be allowed to deduct the points.  The only other major condition is that the points must be clearly stated on the Final Settlement Statement.  For a complete list of requirements on the deductibility of points, see: http://www.irs.gov/taxtopics/tc504.html

Note that points paid for refinance loans and loans for investment properties are generally not-deductible in the year paid – please email me for more info.