What Can Be Deducted When Refinancing Rental Property?
If you refinanced your rental property you may be able to claim some of the expenses you paid in connection with securing the loan. Unlike primary residences, you can deduct more than qualified points and interest.
When refinancing a rental property, there are three areas on a tax return you can claim expenses. Your loan origination costs can be deductible in the year paid, added to your property basis, or capitalized and amortized over the life of your mortgage. Each refinance expense qualifies for a certain area; the sections below describe where your expenses should be taken.
Rental property expenses related to ongoing use are deducted in the year paid. Examples are:
- Casualty insurance premiums,
- Rent for occupancy of the property before closing,
- Utility charges related to occupancy prior to closing, and
- Loan Origination costs, such as interest and deductible real estate taxes.
Ongoing use includes any amounts related to a substantial improvement to the property. For more information on refinancing for home improvements, see Can I Fully Deduct Points Paid on a Refinance? You can also refer to IRS Publications 527, Rental Income and Expenses, and 551, Basis of Assets.
Settlement fees and closing costs for buying property are added to your basis in the property. The costs for getting a loan on property are NOT included in your basis. A fee for buying property is a cost that must be paid even if you bought the property for cash. Some of the settlement fees or closing costs typically included in your property basis are:
- Abstract fees (abstract and title fees),
- Utility service hookup costs,
- Legal fees, including title search, sales contract, and deed,
- Recording fees,
- Transfer taxes,
- Owners life insurance policy, and
- Amounts the seller owes that you agree to pay (back taxes or other fees)
Settlement costs do NOT include amounts placed in escrow for future payments, such as taxes and insurance. Other expenses that are not included in your basis are:
- Expenses related to ongoing use of the property
- Fees for refinancing a mortgage,
- Expenses connected with getting a loan, such as points, mortgage insurance premiums, credit reports, and lender required appraisals
The first is an operating expense deduction, the second and third must be capitalized as costs of getting a loan.
Charges connected with getting a loan are considered capital expenses. These should be amortized over the life of the loan using Form 4652. Most of these items should be listed on your property settlement statement. Examples of refinance charges are:
- Points (discount points, loan origination fees),
- Fees for refinancing a mortgage,
- Expenses connected with getting a loan, such as mortgage insurance premiums, loan assumption fees, credit reports, and lender required appraisals.
You refinanced your rental, but now there are remaining charges from your previous loan. Whether or not you can deduct the entire balance in the current year depends on if you refinanced with the same lender or a new lender.
- If you refinanced with a new lender you may be able to deduct the un-amortized balance of charges in full in the year you refinanced.
For example, your total charges remaining from your old loan were $5,950.00. At the end of the previous year you amortized $250.00 of your old charges. You will be able to deduct $5,700 of your balance in full on your current year tax return. To do this, follow the TurboTax interview instructions on how to enter the balance as an override.
- If you refinanced with the same lender, you must deduct the un-amortized balance over the life of the new loan.
Using the same example as above, your un-amortized balance of $5,950 must be deducted over the life of the new loan. So if the new loan is a 30 year loan, you would be able to deduct $16.53/month ($5,950/360 months). Your deduction for 12 months would be $16.53 x 12 = $198.33.
For example: You refinanced your rental on February 1st. Your loan term was for 30 years. Your settlement statement shows the following expenses:
Points $3,000, underwriting fees $500, appraisal $500.00, notary fees $250.00, and mortgage commissions $3,000. Total costs are $4,250.00 plus the points ($3,000 in pre-paid interest).
The points ($3,000) are amortized over the 30 year loan. Your total expenses for the year would be $4250, which is added to, or increases your basis for the rental property, and depreciated over the life of the property..
If your refinance is related to a substantial improvement of your rental unit, you may be able to deduct all of the charges related to the improvement this year.
For example, you took out a loan for $300,000 and you used $100,000 (1/3) for the rental garage and landscaping. Your eligible loan expenses total $4,250.00. You would be able to deduct 1/3 of the expenses related to the home improvements or $1,416.67 ($4250 / 3).