Owning a home comes with a number of benefits as well as challenges. When you own your home, you don't have to ask your landlord if you can paint the walls bright blue, but you're on the hook for any repairs that need to be made. As a homeowner, you also have to foot the bill for state and local real estate taxes, but in most cases, you can write that money off on your federal income tax return.
Real Estate Taxes
The Internal Revenue Service allows you to write off four types of nonbusiness taxes, including taxes you pay on real estate such as your home. But the IRS puts a few restrictions on what actually qualifies as deductible real estate taxes. The tax has to be imposed on you. The taxes must be charged uniformly throughout the taxing authority. The taxes must be for the general welfare, and you must pay the taxes to the taxing authority.
Local Benefit Taxes
Some communities tack on a local benefits tax to pay for services that benefit specific areas or properties. For example, if the city lays a sidewalk on your street, your property gets the benefit of that service, and you get charged an additional tax, sometimes referred to as an assessment or local improvement tax. These taxes don't qualify as a federal tax deduction because they are for local benefit rather than the general welfare. While local benefit taxes are not tax deductible, you can add them to the cost basis of your home, which will at least reduce the amount of any capital gains tax you might incur once you sell your home.
When to Deduct
You can only deduct real estate taxes once you actually pay that money to the taxing authority, and you can't deduct real estate taxes you paid in advance for future years. Your monthly mortgage payment might include money that goes into an escrow account to pay your property taxes. That money doesn't qualify for a deduction until it is disbursed to the taxing authority, and only the portion that pays your property taxes is deductible.
How to Deduct
You'll have to itemize your deductions if you want to write off your real estate taxes. This might or might not be in your best interest. The IRS recommends figuring your taxes using both the standard deduction and the itemized deductions methods to determine which option gives you the lowest tax obligation.
Mike Parker is a full-time writer, publisher and independent businessman. His background includes a career as an investments broker with such NYSE member firms as Edward Jones & Company, AG Edwards & Sons and Dean Witter. He helped launch DiscoverCard as one of the company's first merchant sales reps.