Most closing agents will complete a Settlement Statement (HUD-1) (PDF) for the purchase of residential real estate (a residence). In NC closing agents are typically attorneys or paralegals under the supervision of an attorney. In many states, title companies and others can act as the closing agent (HUD calls them settlement agents).
There is some variety in how closing agents complete the HUD-1 which makes it more difficult for people to find what is and what is not deductible on their personal tax returns. This post will deal only with people purchasing a residence that will serve as their principal residence. Rental properties, commercial space, vacant land and second homes are treated somewhat differently or have additional considerations.
For the buyer
Keep in mind that only the amounts in the buyer column concern you unless otherwise noted.
Property taxes:
Lines 106 and 107 on page 1 are supposed to list your share of the real estate taxes for the current year/period that the seller already paid. You are reimbursing them for your share for the time you own the residence. You should be able to deduct these taxes on your Schedule A, if you itemize. From here forward, I am assuming you will itemize. In theory you will see the same amounts on lines 406 and 407 for the seller but sometimes the seller has not yet paid the tax and the closing agent will put the seller’s share on lines 510 and 511 and sometimes they do something else with the seller’s share.
If you do not see the taxes on lines 106 and 107, try looking on the lines below 107. The assessments on line 108 or seldom qualified real estate taxes. If you think they might qualify, find out more about them and then look at IRS Publication 17 for the definition of real estate taxes. If the seller has not yet paid the real estate taxes, look at lines 210 and 211 on page 1. This is the seller’s share of the real estate taxes you will pay on their behalf. They deduct this portion not the buyer. In this case, you take the total real estate tax you paid the year of closing on the new home and reduce them by this amount.
You may also find your share of real estate taxes on page 2 of the HUD-1. Most commonly they are listed on lines 808 to 811 or 1302 to 1305. Rarely I see them on other lines. You need to watch out for the amounts in the lender reserves/escrow section, lines 1001 to 1007.
These are deposits made with your escrow agent and are not deductible until paid to the tax authority. You can find what your escrow agent paid to the tax authority on your annual escrow reconciliation, on Form 1098 with your mortgage interest (not always there though), or on your monthly statements typically available online from your lender.
Interest:
When you purchase your principal residence, you can deduct reasonable charges for points and origination fees. You will almost always find them on page 2, lines 801 to 803. Sometimes the line 803 net is negative, meaning you chose a higher interest rate in exchange for lower closing costs. You do not get to deduct the negative amount because that is an amount the lender paid to you to cover other closing costs. You effectively deduct the negative amount via the higher amount you pay in interest as shown on your Form 1098. You do not need to track the negative amount. Points and origination fees paid by the seller are still deductible by the buyer. The theory is that the buyer paid them via a higher purchase price so you have to reduce your cost basis by origination fees and points paid by the seller. The IRS has endorsed this theory.
You may find some deductible interest on page 2, line 901. This amount plus the net points and origination fees are supposed to be on your annual Form 1098 from your mortgage company. Sometimes they are not because the total is under $600 and the mortgage company is not required to issue a Form 1098 in that case. This usually happens when the mortgage company sells the loan immediately to another lender or when you close near the end of the year. Sometimes your Form 1098 is wrong and omits part or all of the deductible origination fees, points and interim interest. You need detail from the mortgage company on how they calculated the amount on Form 1098 to see if they missed the interim interest from line 901.
Mortgage insurance premiums:
On page 2 you want to again ignore the line 1003 escrow amounts. These are on deposit for you until paid and should show on your Form 1098 once paid to the insurance company. However, make sure the amount on line 802 is reported on your Form 1098. If not, you may be able to deduct it depending on the rules for the year you buy. Congress cannot make up its mind about this deduction and it expires quite often only to be later renewed. Who can deduct mortgage insurance premiums is income based and depends on the year the loan was opened.
That is it for buyers. Sorry, the prorated homeowner association fees, prorated utility bills, homeowner’s insurance, title charges, recording fees and other loan fees are not deductible on a principal residence. Some of these charges, such as the title charges and deed recording fees, are added to your cost but not immediately deductible.
Sellers
Property taxes:
This is very similar to the above section for buyers on property taxes except you are only interested in the amounts in the seller column.
Interest:
You should look at your Form 1098 to find the mortgage interest you paid. Sometimes this amount is wrong if you used a relocation company when your employer pays for your move. The relocation company may hold onto your house and pay your mortgage for several months after you “sell” it to the relocation company. You only get to deduct the interest you pay, not that paid by the relocation company. A history of the payments for the year can help you figure out your share.
Mortgage insurance premiums:
Sorry, these are for the buyer’s benefit. The seller cannot deduct them as an itemized deduction even if the seller pays them.
Cost of selling
Assuming you do not get to exclude your entire gain from your income taxes (see Schedule D instructions for details), you will need to know the costs of selling you can deduct. Typically, you can deduct everything you paid except your share of real estate taxes, the payoffs of mortgages and other debts, and operating costs (ex. utility bills, repairs, homeowner’s association fees, etc.). Some examples are the real estate commission, title charges, and closing costs for the buyer (ex. you paid part of the buyers points). If you sell through a relocation company, look at your settlement statement with them and not the settlement statement between them and the buyer.
As most people can exclude the gain from selling their house, I have kept this section brief. If you will owe tax on some or all of the gain you will need to check with a tax professional or do more reading.
Conclusion
Most people do not have a lot of experience reading HUD-1 settlement statement. I hope this post helps you find the itemized deductions your are entitled to. Keep in mind that there are other limitations and rules regarding how much mortgage interest and mortgage insurance premiums you can deduct. This post is already long, so I have not covered them here.
I hope you are enjoying your new home and will have many happy years there.