Early year-end mortgage payment could cut taxes
A little year-end attention to your mortgage could lower your upcoming IRS bill.
Unlike rent, which you pay beforehand (i.e., your Jan. 1 bill covers your stay in the rental unit for that coming month), your mortgage payments are made at the end of your occupancy period. That means your Jan. 1 mortgage statement represents interest for December, making it a tax-break-eligible bill for this year.
By accelerating that payment even by just a day, you get an additional deduction for the interest paid.
Don't get greedy, though. You can't make your February, or any other upcoming, mortgage payment early to boost your year-end deduction amounts. Tax law generally prohibits write-offs for prepaid interest (there is an exception for loan points in some cases). Each year, you can deduct only the home mortgage interest for that year.
You also want to make sure you don't cut it too close in making the early payment. Get the check in the mail in plenty of time for it to arrive at your lender by year's end. If you pay online, be sure you make the electronic transaction in time to have it credited to your 2008 payment amount.
That way, the added interest will show up on the annual statement (usually a Form 1098 or an IRS-acceptable substitute) you'll get from your lender in late January, detailing your deductible mortgage activity.
Timing your payment
Some tax professionals say you can simply make your extra mortgage payment late this month with a check dated Dec. 31 and count it toward your deductions.
However, if you actually get your payment to the bank by the last business day of the year — which happens to be a Wednesday this year — or a weekday or two early, the extra interest will show up on the lender's official paperwork. And that means no curious tax examiner will question any difference between the amount you claim on your Schedule A and what your lender reported (and copied to the IRS) on the 1098 form.
If your year-end mortgage statement doesn't reflect the extra payment's interest, go ahead and deduct the correct amount on your tax return and attach a statement explaining why your number, not the lender's, is accurate.
If your mortgage holder pays your annual property-tax bill from an escrow account, that also will be listed as a deductible home-related expense on your Form 1098. But if you, not your lender, pay your property-tax bill and it's due early next year, consider paying it in December, too. As with your mortgage interest, this payment — and deduction — will be shifted into this tax year.
When shifting deductions doesn't pay
A word — actually, three words — of warning about accelerating some tax payments: alternative minimum tax. This parallel tax system was devised almost 40 years ago to guarantee that wealthy filers paid their fair share to the IRS. But nowadays, millions of middle-class filers are finding the AMT applies to them.
There are a couple of reasons so many taxpayers now potentially face the AMT. First, the parallel tax system isn't indexed for inflation. Without that annual adjustment, regular income increases have pushed many filers, particularly those in high-tax states such as New York and California, close to or into the earnings level where the AMT kicks in. So annually for the last few years, lawmakers have increased the income amount that is exempt from the AMT.
Thanks to the latest law change, the 2008 AMT income exclusions are $69,950 for married taxpayers filing a joint return, $46,200 for single or head-of-household taxpayers and $34,975 for married taxpayers filing separate returns. The income exemption increases took around 22 million potential victims off the AMT rolls.
Secondly, under the AMT, some usually acceptable tax breaks aren't allowed. Mortgage interest on your main and second home is still AMT-deductible, but home equity loan interest could be disallowed. And real-estate and personal property taxes aren't deductible under the AMT. So before you shift payment of those taxes into this year, make sure you won't face an AMT bill where the write-offs won't be of any tax use.
Also be careful about accelerating deductions if you've earned a lot this year.
Taxpayers with adjusted gross incomes of more than $159,950 ($79,975 if married and filing separately) could find their itemized-deductions amount reduced. There's a work sheet in the Form 1040 instruction booklet to help you determine if you'll face the deduction limitation. If you do, it makes no sense to pull deductions you won't be able to fully use into this tax year.
And remember: While an early payment will give you 13 mortgage interest amounts to deduct this year, it means that on your 2009 taxes you'll only have 11 (or 12 if you pay a little early next December, too). So before you send off that check, make sure you really need the added deduction amount on this coming return.
By Kay Bell, Bankrate.com