Primary residence ownership costs

As a homeowner, your main monthly housing cost is comprised of PRINCIPAL, INTEREST, TAXES, (P.I.T.)   Your mortgage payment is comprised of principal and interest. Principal pays down your loan each month, and interest pays your borrowing cost to your lender each month.

Taxes refer to local property taxes assessed by your city or county quarterly, semiannually, or annually.

Insurance is your fee paid to an insurance company of your choosing to help protect you and your lender if the home was impacted by fire, flood or other disaster.

If you bought a home for $3000,000 with 20 percent down and got a  30 year fixed rate of 3.5 percent, a mortgage calculator tells us that your monthly housing cost would break down as follows:

  Principal and interest (your mortgage payment)   $1,077
  Property taxes (using U.S. average rate of 1.2% on $300,000 value)   $300
  Homeowners insurance   $75
  TOTAL COST   $1,452

Annual tax benefits for primary residence owners

As the owner of your primary residence, your annual tax benefits come from being able to deduct the mortgage interest and property tax you pay each year.

Of the total $1,077 total monthly mortgage payment above, $700 goes toward interest and $377 goes toward paying down the loan. And we know that the property taxes are $300 per month.

So we know you’re paying $8,400 per year in interest ($700 per month for 12 months), and $3,600 per year in property taxes ($300 per month for 12 months).

Together these total $12,000, and this full amount is deductible when you file your taxes (for low- to moderate-income homeowners).

How does a tax deduction help you save money?

When you file your taxes each year, there is a form called Schedule A: Itemized Deductions where you list eligible items that get “deducted” from your income so you pay tax on less income.

This form has line items for mortgage interest and property tax deductions. In our example, the IRS allows you to itemize $8,400 in mortgage interest and $3,600 in property taxes into their respective line items on Schedule A.

Doing so will reduce the amount of income you get taxed on by $12,000 ($8,400 plus $3,600).

Let’s say your W-2s showed that you made $90,000 this year. These two line item deductions of $12,000 get subtracted from your $90,000 gross income, which means the income you’ll actually be taxed on is reduced to $78,000.

Different incomes are taxed at different rates, and you’d be taxed at about 28 percent on this level of income.

To quickly estimate how much your tax deductions save you, multiply the $12,000 in allowable deductions by your 28-percent tax rate. This gives you an estimated annual tax savings of $3,360, meaning you’ll pay about this much less in taxes because of your primary residence owner deductions.

If you convert this to a monthly figure of $280, and subtract it from your total monthly housing cost noted above of $1,452, it reduces your total housing cost to $1,172 after tax benefits.

This is affordable for a $300,000 house, and is likely to be cheaper than renting a comparable home in most cities.

Additional tax benefits for homeowners

Other annual tax benefits for owners of primary residences include deducting points paid on a refinance, home energy credits, deducting mortgage insurance for lower earners, and home office deductions. Each of these benefits has fine print to discuss with your tax adviser.

Other homeowner tax benefits come when you sell your primary residence. Single people are exempt from paying capital gains taxes on up to $250,000 in capital gains, and this exemption increases to $500,000 for married couples. Also, money you spend on improvements while you own the home reduces your taxable gain.