Tax Extenders: Deduction for Mortgage Insurance Premiums

Update: January 14, 2013 – Many of these items were extended by the legislation that prevented the “fiscal cliff” at the end of 2012.  Click here for details on extension of items like the PMI deduction.

The tax extenders debate is heating up again in Washington. “Tax extenders” refer to a set of business and individual tax rules that expire every year or two.

In recent years, the set of expiring tax provisions has grown to include the 2001/2003 tax rate cuts, but in general, on Capitol Hill, tax extenders refer to a smaller group of rules that routinely face sunset.

There are tax extenders that are of interest to the housing community, including the following provisions that expired at the end of 2011:

• The section 45L $2,000 credit for the construction of certain for-sale and for-lease energy-efficient housing
• The section 25C energy-efficient remodeling credit for existing homes
• The 9% credit fix for the Low-Income Housing Tax Credit, as well as the targeted fix to the income eligibility for Basic Housing Allowances
• The section 108 tax exclusion for cancelled or forgiven mortgage debt associated with a principal residence
• Increased levels of section 179 small business expensing
• The deduction for mortgage insurance premiums
• Brownfield expensing for certain developments

And finally, the so-called Alternative Minimum Tax patch expired at the end of 2011. If left “unpatched,”  the AMT could cause up to 30 million taxpayers (up from about 5 million per year) to pay higher taxes. Many of those affected would be small business owners who organize their enterprises as pass-thru entities, such as home builders, for whom 80% are organized as S Corps or LLCs. The AMT would also disallow certain nonrefundable personal tax credits, like the section 25C remodeling credit mentioned above.

We thought we would highlight who benefits from the deduction for mortgage insurance premiums, which is a tax extender item.

Until the end of 2011, a deduction existed for most forms of mortgage insurance premiums. Homeowners who itemize their taxes and paid mortgage insurance who could deduct these payments in the same manner as mortgage interest. However, the deduction was subject to an income phaseout. For taxpayers with adjusted gross income (AGI) in excess of $100,000, the deduction phased out by 10% for each $1,000 of AGI above the $100,000 level ($500 phaseout at a $50,000 level for married taxpayers filing separate returns). Thus, the deduction fully phased out for taxpayers with AGI in excess of $110,000 ($55,000 for married taxpayers filing separate returns).

Mortgage insurance qualifying for the deduction included insurance provided by the Veterans Administration, the Federal Housing Administration, or the Rural Housing Administration, and private mortgage insurance.

The economic impact of the deduction helped homebuyers with smaller downpayments reduce the after-tax cost of buying a home.

And 2009 IRS data illustrates the scale of the benefit.

Almost 3.6 million taxpayers claimed the deduction for mortgage insurance in that year. More than 2.9 million of them, or 82%, had AGI between $30,000 and $100,000.

In 2009, the amount of mortgage insurance premiums claimed as a deduction totaled almost $5.5 billion. Assuming an average effective tax rate for homeowners of a little less than 14% suggests the net tax benefit of the deduction in 2009 was a little more than $700 million.

As mentioned above, the deduction expired at the end of 2011. So for current homeowners paying mortgage insurance and hoping to claim the deduction, as well as prospective homebuyers who will enter the early years of a mortgage, a Congressional extension  for tax year 2012 is necessary for this deduction to continue.