Mortgage Interest

• The mortgage interest tax deduction allows you to deduct the interest you pay on your mortgage loan each year. According to the Internal Revenue Service, home mortgage interest is any interest you pay on a loan secured by your home. When you purchase a home, you can take out a mortgage loan for up to $1 million and deduct the interest. In fact, the interest is deductible on one or more home mortgages as long as you do not exceed taking out loans that total more than $1 million. You must itemize deductions to deduct the interest you pay on a home mortgage.
  
  

Refinancing

• When refinancing a mortgage loan, different rules may apply. The rules for the mortgage interest tax deduction remain the same if you get a new loan of equal value to pay off a first mortgage loan. If you use equity in your home to get a larger refinance loan, the additional money you borrow is treated as home equity debt. Therefore, if you choose a cash-out refinance loan and refinance an old $100,000 first mortgage to a $125,000 new loan and use the additional $25,000 for other purposes, that $25,000 is treated as home equity debt rather than as home mortgage debt. You can only deduct the interest on the balance of your original home mortgage in addition to another $100,000 you borrow. In cases where you need cash, you might do better to take out a home equity loan or line of credit rather than refinancing your mortgage loan.
  
  

Schedule A

• The Form 1098 that you receive from your bank or mortgage company shows the total interest you paid for the year – including the interest you paid on the home equity portion of a refinance loan. Once you’ve exceeded the limit on the refinance deduction but still claim the full amount of interest paid that appears on the Form 1098, you could be taking more in deductions than you are entitled to take. Not only would you have to pay back some of the money you took as a deduction, you would owe the IRS more money in penalties and interest. The IRS advises taxpayers to read the instruction booklet for Schedule A – the tax form you use to enter the home mortgage interest deduction.
  
  

Additional Factors to Consider

• Most people refinance a mortgage loan to save money. Since refinancing involves additional costs, there are several factors you should consider. Compare the current interest rate you are paying with those now available. Ask yourself whether refinancing your mortgage loan will reduce your monthly payments. If the reason you are refinancing is to lower your monthly mortgage payments, make certain that you can recover any expenses you incur during the refinance process within a reasonable period of time. Otherwise, you won’t be saving. Divide the total cost to refinance your mortgage loan by how much you will save in monthly mortgage payments. This will give you some idea of how long it will take you to recover your upfront refinance costs. Depending on the lender, costs may include an application or processing fee, appraisal and title search fees and a loan origination fee.