Are closing costs tax deductible on rental property? Technically, they aren’t, but there are ways to get your closing costs worked in so that they benefit your bottom line in some way. Yes, you do get to deduct certain expenses, but the ones that you can’t, you can amortize or add to your basis.
We will help you understand all of this below.
What Closing Costs are Tax Deductible?
First, let’s look at the tax-deductible closing costs. You can deduct just about the same closing costs that you can deduct if you were to buy a primary residence. These include:
- Prepaid mortgage interest – This is the interest you pay on the mortgage before you make a payment. Because you pay mortgage interest in arrears and you don’t make a payment for 45 days, typically, you need to pay the interest for the remaining days in the month that you close.
- Property taxes – If you pay any property taxes at the closing, you can write them off on your taxes. In addition, you’ll be able to write off any property taxes that you pay during the year as well.
- Escrow payments – If you have an escrow account, you can write off the funds you placed into that account that the lender paid out that year. If you overpaid your escrow account, though, and the amount exceeded the cost of your insurance or taxes, you can’t write that portion off on your taxes.
What Closing Costs are Amortized?
Amortizing your closing costs means spreading the write off throughout the term of your loan. If you take a 30-year loan, you’d be able to deduct a portion of your closing costs each year for 30 years. If you paid $20,000 in closing costs, you’d be able to amortize $666 per year.
Typically, you can amortize any closing costs that you pay on a loan including:
- Origination fees
- Discount points
- Processing fees
- Underwriting fees
- Appraisal fees
What are Basis Adjustments?
Finally, there are basis adjustments. These are closing costs that you pay that you can add back to the cost of the home. This comes into play when you sell the home and need to figure out your capital gains. The basis adjustments include:
- Title fees
- Recording fees
- Transfer taxes
- Pest inspections
The more closing costs that you can add to your basis adjustment price, the lower your capital gains become. This can help lower your tax liability when you sell the home.
As always, it’s important to talk to your tax advisor before you write off your closing costs. They can answer the question ‘are closing costs tax deductible on rental property’ as they pertain to your situation. In most cases, yes, you can deduct some of your fees, but every individual is different, so you need to make sure that you understand how it affects your situation before moving forward.