Similar to a conventional mortgage, some of the costs associated with getting a reverse mortgage are tax-deductible, as are any interest payments a borrower might make. For example, Joe Diaz, owner of American Essential Services, a tax preparation company located in Kissimmee, Fl, can claim reverse mortgage origination fees and any broker fees.
And, he continues, if a broker gives a borrower a “discount” on the loan’s interest rate in exchange for a “discount point,” that’s also tax deductible. Here’s how it works: A mortgage broker gives a borrower a loan at a bank’s “par” rate, at which a broker doesn’t have to pay a fee to “buy” the loan from a bank.
However, the borrower may request a lower “par” (interest) rate. In that case, the broker will lower the rate but charge the borrower an upfront fee, or “points,” and those points are tax deductible.
Intangible Taxes May Be Deducted
In some states like Florida, the “intangible fee” can also be claimed in reverse mortgages.
“The key thing would be, make sure the borrower saves their final settlement statement (which lists the various fees) when they close, for when tax time comes,” says Diaz. “Sometimes the IRS doesn’t get everything reported correctly, and you must have all your ducks in a row.”
He says these deductions can be listed on Schedule A of a 1040 form.
While one of the perks of getting a reverse mortgage is not having to make a monthly payment, making interest payments is something to consider for those who wish to control their balance. However, it’s important to note that this doesn’t mean a borrower can claim the interest that accrues on the loan unless they pay it off.
The IRS has to say: “Any interest (including original issue discount) accrued on a reverse mortgage is not deductible until you pay it, which is usually when you pay off the loan in full.” If you do pay the interest, though, it’s fair game for a tax deduction.
Payments Must Be Applied to Deduct Interest
“If you’re not making a payment, then Internal Revenue is not going to get a report from the reverse mortgage servicing department that interest is being paid,” explained Diaz. “To claim the interest, you have to be making a payment.” In another scenario, where a borrower does not choose to make any payments on the reverse mortgage loan on accrued interest, that person’s heir can claim the amount of interest they paid on the loan.
“If the heirs pay off the interest on a reverse mortgage after the borrower dies, they can claim it in the year that they pay it,” says Michael Darrett, a CPA at Chicago, Ill.-based Liberty Tax Services. But, he adds, there are still limitations, as the amount of interest claimed cannot exceed $100,000. This limits the amount of debt that can be considered home equity debt, which is how the IRS views reverse mortgage loans.
How Interest Repayments Are Applied
Another thing to remember is that pre-payments to reverse mortgage loans are applied to the loan balance in a specific order: first, to accrued mortgage insurance premiums; second, to accrued monthly servicing fees; third, to accrued interest; and last, to the remaining principal balance.
When reverse mortgage borrowers make payments, they’re issued a 1098 statement, typically generated when a reverse mortgage loan is repaid partially or in full.
These interest statements, which break down the amount of mortgage insurance premiums and interest paid by the borrower during the prior calendar year, are generated and mailed to borrowers in January of each year and can be used for income tax filing purposes.