Additional Mortgage

Q.  If I add an additional amount to my mortgage payment will it affect my ability to itemize my taxes?

A.  That’s a great question! It correctly identifies that having a mortgage is typically the dividing line between whether itemizing your taxes is more beneficial than taking the standard deduction.  Most people with a home mortgage itemize their tax deductions. Most people without a mortgage use the standard deduction. It is legal to do either each and every year, but you want to do the one that is most advantageous to you as a taxpayer. If you have a mortgage it is usually more advantageous to itemize.

Here’s the short answer to the question: It won’t affect whether itemizing is more advantageous when you first start to make additional payments, but if you plan on keeping your house for a long time it might affect you later down the road.

Here’s why – the part of the mortgage that is deductible from taxes is the interest. The interest is charged on the principle – the amount you borrowed. When you make additional payments above the minimum the bank is required by law to apply those additional payments to reduce the principle. As the principle shrinks the amount the bank can charge in interest on the loan also shrinks. That’s the whole point of making additional payments – to lower the total interest you pay on the loan!

As the amount of interest you are paying on the mortgage shrinks over time, so does your tax deduction for mortgage interest. If you significantly shrink your mortgage interest payments, it might become more advantageous to use the standard deduction. You always have the ability to itemize, but if your deductible interest payments are low you might not want to!

There are other factors in addition to taxes that determine if paying your mortgage off early is the best course of action for you. Do you have an emergency fund established? Do you have other debts at higher interest rates (student loans, car loans, or credit cards)? Do you have access to a retirement plan with matching money from your employer? It’s never a bad idea to get rid of mortgage debt, but be sure it is the best move for you to make at this time. If you aren’t sure, contact a professional financial planner to help you work through all of the details.

Paul Allen, Bank On Coach and member of Financial Planning Association of Hampton Roads