That's the mortgage interest credit form the Internal Revenue Service requires to allow a portion of the annual interest paid on a mortgage as a special tax credit of up to $2,000. And it can be taken every year the homeowners file a tax return if the home still serves as their principal residence.
Tax credits get their potency by allowing you to deduct that amount dollar for dollar directly from your final income tax liability. That's quite different from a tax deduction, which subtracts an amount, say your mortgage interest, from adjusted gross income before your ultimate tax liability for the year is calculated.
If you're one of the majority of taxpayers who now don't bother itemizing because of the increased standard deduction, that's it. But if you do still itemize, you need to subtract that credit from the mortgage interest you include in Schedule A for that tax year.
(That's according to this blog by the Ohio accounting firm of Holbrook & Manter. Consult your own tax attorney or accountant, of course, to ensure you're making the right moves in your tax preparation.)
To add to the attraction, you can deduct from your taxable income both the credit and the percentage of your mortgage interest that remains after the credit.
What is mortgage interest credit?
Of course, there's more to it than that. Like the child tax credit, the mortgage interest credit was created to help low- and moderate-income households.
A Mortgage Credit Certificate (MCC) is legally required to file a Form 8396 and claim the mortgage interest credit. The IRS form itself says, "You can claim the credit only if you were issued a qualified MCC by a state or local government unit or agency under a qualified mortgage credit certificate program." That means using a lender who is a participant with a local or state housing finance agency (HFA). The Federal Deposit Insurance Corporation (FDIC) said 33 of 54 HSAs listed in its latest Affordable Mortgage Lending Guide do offer the certificates.
Income and other eligibility requirements vary. The National Council of State Housing Agencies is a good place to find the agency that serves your community. Here's an example quiz from the Texas State Affordable Housing Corporation. (There are other search sites online that can direct you to participating agencies and lenders.)
And here's an example from the MCC program in Collin County, Texas, near Dallas that sets the maximum allowable income at $70,100 for a one- or two-person household and $80,615 for a household of three or more, with a maximum purchase price of $250,200.
Jurisdictions and formulas
The mortgage credit certificate generally is for first-time homebuyers, with the exception of purchases in some economically distressed areas, often defined by census target areas. Veterans also are included in some programs.
The IRS does stipulate, however, that Homestead Staff Exemption Certificates, and certificates issued by the Federal Housing Administration, Department of Veterans Affairs, and Farmers Home Administration, do not qualify for the mortgage interest credit.
The home must also be the primary residence for the filer during that tax year and located in the jurisdiction of the agency or other jurisdiction that issued the certificate.
According to Kiplinger, the credit amount is listed on the certificate itself and can range from 10% to 50% of the mortgage interest paid that year up to that $2,000 limit. If you have more credit above the limit, Form 8396 also has a place for you to carry forward the unused portion of the mortgage interest credit for the next tax year, and the two after that, until used up, whichever comes first.
Here's more income tax insight from Motley Fool and Millionacres:
- What is IRS Publication 530?
- The Ultimate 2020 Tax Planning Guide.
- 2019 Tax Changes: Everything You Need to Know.
Hilltop Securities provides this formula for calculating the mortgage interest credit:
Loan Amount X Interest Rate X Percent of Credit Allowed = Amount of Credit
Plus, check out this detailed example from HSH.com about how a typical mortgage credit certificate can allow a homebuyer to use Form 8396 with his or her tax return to reduce the income needed to qualify for this $250,000 mortgage by more than $11,000 to $53,571. "The credit helps people qualify for a better house by increasing their take-home pay," the article notes.
You do have to apply for the mortgage credit certificate before you close on the mortgage. Check with the participating lenders and agencies in your area for any limitations on what kinds of loans and buildings (condos, single-family, manufactured housing, new construction) they'll issue a certificate on for you and the program-approved lender.
How to prepare IRS Form 8396
You must complete Form 8396 and attach it to your 1040 in order to claim the credit.
Detailed instructions for filling it out are on pages 8 to 10 of IRS Publication 530 (2019), the annual Tax Information for Homeowners guide.
Form 8396 is only a two-page document, with the first part devoted to the current year's credit and the second part to any interest credits being carried forward.
The instructions in Publication 530, meanwhile, contain several examples of how the mortgage credit works, as well as explanations on limits, carryforwards, and refinancing.
Special mortgage considerations for MTCs and IRS Form 8396
Whether to file for a mortgage credit is, of course, an individual decision. There are some considerations about the programs that the FDIC shared from the bankers' perspective in its Affordable Mortgage Lending Guide.
Potential mortgage tax credit (MTC) program benefits:
- Increased payment affordability.
- Lenders able to qualify more low- and moderate-income borrowers.
- They can be coupled with most first-mortgage loans.
Potential MTC program challenges:
- Difficulty explaining the application, benefits, and limitations to borrowers.
- A low risk that a borrower could be subject to the recapture tax.
- State HFA programs are subject to funding availability, including bond funding limits.
Mortgage certificate caveats
Mortgage interest credits via Form 8396 also come with a number of restrictions and rules in addition to preventing the double-dipping that would take place if you could deduct the same paid interest that you're using for the income tax credit.
The interest on the mortgage can't be paid to a relative, for starters. It has to be an approved lender. If you refinance, you have to start over with a new mortgage credit certificate to go along with that new loan. And if you sell the home within nine years of buying it, you might have to repay some of the tax credit.
A subsidy, in this case, is IRS lingo for the tax credit. And at least if your home turned out to be a less-than-stellar investment, there is this: "If you had a loss, you won't have to pay back any subsidy," the IRS says in Publication 523.
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