Will buying a home save you tax money? Probably, but maybe not. Follow this example.
Let’s say you’re renting a 3 bedroom 1.5 bath home right now for $1,000 per month. None of this is tax deductible. You are building no equity. But, you do have a roof over your head and someone to call if something breaks; so that’s good.
Now let’s say you purchase this house for $130,000 with a conventional loan that has a 4.5% interest rate over 30 years. Your monthly payment will stay approximately the same, maybe go down a little. If you put 5% down then your payment would break down to be:
162.63 Principal (building equity)
463.13 Interest (this number gradually gets smaller and principal gets larger)
200.00 Property taxes (this varies on the home and the municipality)
81.30 PMI, Private Mortgage Insurance
So, in a years time you’ll have paid approximately $5,500 in interest, $975 in mortgage insurance, and $2400 in property taxes. All of these are deductible, unlike rent. This totals just shy of $8,900 (to continue using round numbers). Well that sounds great! Almost $9,000 off my income, yee haw!
Not so fast – The thing is you are already entitled to a standard deduction of $6,300 as a single person and $12,600 as a married couple (for 2016). If you’re married and together make about $60,000 you’re probably paying around $2,400 in Michigan income taxes, which is also deductible. So, in order to exceed the standard deduction you would need to have charitable contributions over $1,300.
As these numbers go up the benefit gets greater and greater. If your income is higher and so your Michigan income tax is higher, there is more benefit. If your home is more expensive and therefore your interest and property taxes are higher, there is more benefit. It doesn’t take long and it’s a huge tax advantage! However, if you are married with a combined income of less than $60,000ish and a home less than $130,000ish then the benefits aren’t quite as dramatic. Make sure you get proper tax advice around your situation and don’t base your budget and life around tax savings that might not be as large as you thought!