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The term “points” is used to describe certain charges paid, or treated as paid, by a borrower to obtain a home mortgage. Points may also be called loan origination fees, maximum loan charges, loan discount, or discount points.

Chart for - Are My Points Fully Deductible This Year?

A borrower is treated as paying any points that a home seller pays for the borrower's mortgage. See Points paid by the seller, later.

General Rule:

You generally cannot deduct the full amount of points in the year paid. Because they are prepaid interest, you generally deduct them ratably over the life (term) of the mortgage. See Deduction Allowed Ratably, later.

Exceptions to the general rule:

Deduction Allowed in Year Paid:

You can fully deduct points in the year paid if you meet all the following tests. (You can use Figure B as a quick guide to see whether your points are fully deductible in the year paid.)

1. Your loan is secured by your main home. (Your main home is the one you ordinarily live in most of the time.)

2. Paying points is an established business practice in the area where the loan was made.

3. The points paid were not more than the points generally charged in that area.

4. You use the cash method of accounting. This means you report income in the year you receive it and deduct expenses in the year you pay them. Most individuals use this method.

5. The points were not paid in place of amounts that ordinarily are stated separately on the settlement statement, such as appraisal fees, inspection fees, title fees, attorney fees, and property taxes.

6. The funds you provided at or before closing, plus any points the seller paid, were at least as much as the points charged. The funds you provided do not have to have been applied to the points. They can include a down payment, an escrow deposit, earnest money, and other funds you paid at or before closing for any purpose. You cannot have borrowed these funds from your lender or mortgage broker.

7. You use your loan to buy or build your main home.

8. The points were computed as a percentage of the principal amount of the mortgage.

9. The amount is clearly shown on the settlement statement (such as the Settlement Statement, Form HUD-1) as points charged for the mortgage. The points may be shown as paid from either your funds or the seller's.

Note: If you meet all of these tests, you can choose to either fully deduct the points in the year paid, or deduct them over the life of the loan.

Home improvement loan:

You can also fully deduct in the year paid points paid on a loan to improve your main home, if tests (1) through (6) are met.

Second home:

You cannot fully deduct in the year paid points you pay on loans secured by your second home. You can deduct these points only over the life of the loan.

Refinancing:

Generally, points you pay to refinance a mortgage are not deductible in full in the year you pay them. This is true even if the new mortgage is secured by your main home.

However, if you use part of the refinanced mortgage proceeds to improve your main home and you meet the first 6 tests listed under Deduction Allowed in Year Paid, you can fully deduct the part of the points related to the improvement in the year you paid them with your own funds. You can deduct the rest of the points over the life of the loan.

Example 1.

In 1994, Bill Fields got a mortgage to buy a home. In 2007, Bill refinanced that mortgage with a 15-year $100,000 mortgage loan. The mortgage is secured by his home. To get the new loan, he had to pay three points ($3,000). Two points ($2,000) were for prepaid interest, and one point ($1,000) was charged for services, in place of amounts that ordinarily are stated separately on the settlement statement. Bill paid the points out of his private funds, rather than out of the proceeds of the new loan. The payment of points is an established practice in the area, and the points charged are not more than the amount generally charged there. Bill's first payment on the new loan was due July 1. He made six payments on the loan in 2007 and is a cash basis taxpayer.

Bill used the funds from the new mortgage to repay his existing mortgage. Although the new mortgage loan was for Bill's continued ownership of his main home, it was not for the purchase or improvement of that home. He cannot deduct all of the points in 2007. He can deduct two points ($2,000) ratably over the life of the loan. He deducts $67 [($2,000 ÷ 180 months) × 6 payments] of the points in 2007. The other point ($1,000) was a fee for services and is not deductible.

Example 2.

The facts are the same as in Example 1, except that Bill used $25,000 of the loan proceeds to improve his home and $75,000 to repay his existing mortgage. Bill deducts 25% ($25,000 ÷ $100,000) of the points ($2,000) in 2007. His deduction is $500 ($2,000 × 25%).

Bill also deducts the ratable part of the remaining $1,500 ($2,000 - $500) that must be spread over the life of the loan. This is $50 [($1,500 ÷ 180 months) × 6 payments] in 2007. The total amount Bill deducts in 2007 is $550 ($500 + $50).

Deduction Allowed Ratably:

If you do not meet the tests listed under Deduction Allowed in Year Paid, earlier, the loan is not a home improvement loan, or you choose not to deduct your points in full in the year paid, you can deduct the points ratably (equally) over the life of the loan if you meet all the following tests.

1. You use the cash method of accounting. This means you report income in the year you receive it and deduct expenses in the year you pay them. Most individuals use this method.
    

2. Your loan is secured by a home. (The home does not need to be your main home.)
    

3. Your loan period is not more than 30 years.
    

4. If your loan period is more than 10 years, the terms of your loan are the same as other loans offered in your area for the same or longer period.
    

5. Either your loan amount is $250,000 or less, or the number of points is not more than:
• 4 - if your loan period is 15 years or less, or
   
• 6 - if your loan period is more than 15 years.

Example.

You use the cash method of accounting. In 2007, you took out a $100,000 loan payable over 20 years. The terms of the loan are the same as for other 20-year loans offered in your area. You paid $4,800 in points. You made 3 monthly payments on the loan in 2007. You can deduct $60 [($4,800 ÷ 240 months) x 3 payments] in 2007. In 2008, if you make all twelve payments, you will be able to deduct $240 ($20 x 12).

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From IRS Publication 936

All Chapters concerning this topic: home mortgage interest; secured debt; qualified home; Special Situations; Points; Mortgage Insurance Premiums; Form 1098, Mortgage Interest Statement; How To Report; Special Rule for Tenant-Stockholders; Home Acquisition Debt; Home Equity Debt; Grandfathered Debt