Your changing tax life: Owning a home
Congratulations, you've just taken another step up the American dream
ladder and are a homeowner. Along with the joy of painting, plumbing and
yard work, you'll now have an added dimension to your taxes.

The good news is that you can deduct many home-related expenses. These
advantages apply to any type of residence -- mobile home, single-family,
townhouse, condominium, or cooperative apartment.

The bad news is that to take full tax advantage of your home, you need to
itemize your deductions on Schedule A. You're not living on "EZ" Street
anymore; you've moved to the 1040 Long Form.

What expenses can you deduct as a homeowner? The major ones are reflected
in your house payment, which you probably are making to a bank. When you
got the loan, you learned that the check you send in each month pays for a
lot more than just the structure. Each January, your lender will send you a
statement, usually Form 1098, detailing just how your payments were
allocated.

Mortgage interest
If that annual statement were presented as a pie, you'd see that the actual
paying down of your loan principal is the smallest slice. And the biggest
piece is the interest your lender collects. That's why it's going to take
you 30 years to own your home, but during that time you'll be able to use
the interest paid on that to reduce your tax bill.

Mortgage interest is one of the last remaining personal interest deductions
that our tax laws allow, so use it. You enter the amount your lender
reports to you on line 10 of Form 1040, Schedule A.

Points
Also mentioned on this part of Schedule A are points. A point is a
percentage of your loan amount and is a one-time fee paid to obtain a loan
or reduce the loan rate. Points also are called loan origination fees,
maximum loan charges, loan discount or discount points.

The IRS lets you deduct points in the year you paid them if:

The loan is to purchase or build your main home.
Payment of points is an established business practice in your area.
The points charged were within the usual range.
And the points were not paid in place of other fees (appraisal, inspection,
title) or property taxes.
Points may be listed on the 1098 form you get from the bank. But more
likely you'll have to dig out the documents you received when you closed on
the house to find the amount you paid.

Using taxes to reduce taxes
The other major deduction in connection with your home is your property
taxes.

If your house payment includes an escrow amount for payment of taxes, the
annual information you get from the bank is a good way to check that those
property taxes were paid. You certainly want to ensure that the state or
local tax collector doesn't come looking for you. But you also want to keep
tract of this amount so that you can include it as a deduction on Schedule
A.

These taxes will be an annual deduction as long as you own your home. But
if this is your first tax year in your house, dig out that settlement sheet
given to you when you closed the deal. You will find additional tax payment
information there. When the property was transferred from the seller to
you, the year's tax payments were divided so that each of you paid the
taxes for that portion of the tax year during which you owned the home.
Your share of these taxes is fully deductible.

A word of caution: if your settlement statement shows any money you paid
into an escrow account for future taxes, this amount is not deductible. You
can only deduct the taxes when your lender actually pays them from the
escrow account to the property tax collector.

For example, you buy your house on July 1. Your property taxes are due on
Jan. 1 each year. When you closed, the seller had already paid the year's
taxes of $1,000 in full so you reimburse the seller half of his annual tax
payment since you are the owner for the last six months of the year. Your
$500 reimbursement to the seller is shown on your settlement documents.

The closing document also shows you prepaid another $500 to the lender as
escrow for the coming year's taxes due next Jan. 1. The $500 you reimbursed
the seller at closing is deductible on this year's tax return, but the $500
held in escrow is not deductible until it is paid the next year.

Home equity loans
Personal interest is no longer deductible -- unless it's the interest you
pay on a home equity loan. However, there is a restriction on the amount of
these loans for which the interest is deductible.

The IRS limits the home equity debt for which you can deduct interest to
the smaller of:

$100,000 ($50,000 if married filing separately), or
The total of the home's fair market value reduced by the amount of the
existing home mortgage debt.
For example, you bought your home in five years ago, your mortgage balance
is $95,000 and the house's fair value is $110,000. To pay for your
daughter's college tuition and buy her a car so she can get to school, you
take out a home equity loan of $42,000. In this case, your interest
deduction would is limited to $15,000. This is the smaller of the $100,000
limit or $15,000 -- the amount that your home's fair market value of
$110,000 exceeds the existing mortgage debt of $95,000.

The IRS considers the interest on the $27,000 of the loan that is over the
home equity debt limit ($42,000 - $15,000) as nondeductible personal
interest. So while you generally can get some tax benefit here, you need to
keep in mind what your loan deductibility limits are when you consider a
home equity loan.

When you sell
When you decide to move up to a bigger home, you'll be able to avoid some
taxes on the profit you make. Tax law now allows you to exclude up to
$250,000 of gain you make on the sale or exchange of property. Married
taxpayers filing a joint return can exclude up to $500,000.

You can only take this exclusion every two years. And the IRS requires that
you have owned and lived in the house as your principal residence for at
least two of the five years before you sold it.

If you must sell before you meet the IRS ownership and residency
requirements, you can still get a partial exclusion on any profit. To
qualify for prorated tax relief, your home's sale must be because of a
change in the your health, employment or unforeseen circumstances.

What's not deductible
With all the possible tax deductions you can get from your house, there are
still a few things for which you have to bear the full cost.

You've probably noticed that a portion of your house payment goes into
escrow so your bank can pay your property insurance bill. Unfortunately,
that insurance fee is not tax-deductible. Neither are FHA mortgage
insurance premiums, homeowner association fees, any additional principal
payments you make, maid service costs, depreciation of your home or your
utility charges.

So even though you still have to pay the electric bill and hire the kid
down the street to mow the lawn, it's a small price to pay to have your own
place and get all the tax breaks that come with it.

Is there a new baby in the house? That's good news in many ways, because
the chip off the old block also will allow you to chip away at some of the
income taxes you owe.

A growing family makes you eligible for a variety of tax savings. They
include an additional exemption, credits such as the child tax credit and
the child and dependent care credit, and, to a lesser degree of
effectiveness, tax reduction by shifting income to a youngster.

Dependency exemption
The primary child-related tax saving comes in the form of another personal
exemption you can claim on your tax return. The personal exemption amount
generally is adjusted each year for inflation and is subtracted from your
income. The lower your income, the lower your tax bill.

While the added family member usually is a child, you could claim a parent
or even an unrelated person as long as he or she meets all of the following
five tax dependency rules:


Relationship or member-of-household test -- The person must be a relative
or live in your household all year. There are exceptions for dependents who
are born or die during the tax year.
Gross income test -- The dependent may not have more than the annual
exemption amount in gross income. However, this doesn't apply to children
who are under 19 at the end of the tax year or full-time students under the
age of 24.
Support test -- The taxpayer must provide more than half of the person's
support. Several relatives who support an individual must create a multiple
support agreement, allowing one of them to claim the exemption, and this
person must provide more than 10 percent of the individual's support. If
the parents are divorced or separated, the custodial parent generally gets
the exemption, regardless of who provides the support, unless the custodial
parent gives up the exemption via a written agreement.
Joint return test -- Generally, the person can't file a joint tax return
with someone else unless it is only to claim a refund of tax withheld.
Citizen or resident test -- The person must be either a U.S. citizen,
resident alien or national, or a resident of Canada or Mexico.

So, if the newest addition to your household passes all of these tests,
then you've got another exemption. Just be sure to provide the dependent's
Social Security number.

Tax credits
In addition to claiming the personal exemption, there are numerous tax
credits that you may be eligible for when your family grows. The great
thing about tax credits is that they reduce your tax liability on a dollar-
for-dollar basis.

Another Tax Basic discusses tax credits in more detail, but the ones you'll
be most likely to qualify for once little Jimmy or Janie arrive are the
child tax credit, the additional child tax credit, and the child and
dependent care credit.

Adoptive parents also may be able to claim a credit on their federal income
tax return for qualified adoption expenses.

Income shifting
Taxpayers also may be able to save money by shifting income from parents to
children, who are in a lower tax bracket. Such tax-reduction strategies are
accepted by the IRS -- within limits. Parents who try to shelter large
amounts of income by putting an adult's investments in a child's name will
confront "kiddie tax" restrictions.

[see website for more]

http://www.bankrate.com/brm/green/taxes/5b.asp

--
Hilary Duff turns 18 in this amount of time (I know you're waiting for it):
http://www.timeanddate.com/counters/...&month=09&year
=2005&hour=00&m

"It's not that some people have willpower and some don't. It's that some
people are ready to change and others are not." -- James Gordon, M.D.