Cash-Out Refinance Tax Implications: What You Need to Know
Looking to refinance? Understand the cash-out refinance tax implications before you take the plunge. Learn what you need to know before you start the process.
What Are Cash-Out Refinance Tax Implications?
A cash-out refinance is a type of home loan that allows you to access the equity in your home to obtain cash. The cash you receive can then be used to make home improvements, pay off debt, or fund other large expenses. The process of using a cash-out refinance involves taking out a new mortgage that is larger than the existing mortgage and taking the difference as cash. This new loan carries its own set of tax implications, which you should understand before you make a decision.
Typical Tax Implications for a Cash-Out Refinance
In most cases, the cash-out refinance is subject to the same tax laws that apply to mortgages in general. Most interest paid on a cash-out refinance is tax-deductible, and the amount may be included as part of a homeowner's mortgage interest deduction. Additionally, points paid to lower the interest rate for a cash-out refinance are tax-deductible in the year in which they are paid.
On the other hand, the proceeds from a cash-out refinance are typically treated as a loan, meaning that the amount of any gain is subject to tax. For example, if you borrow $50,000 from a cash-out refinance and use it to make a down payment on another property, you would be subject to capital gains tax on the difference between the sale price and the amount of the loan.
Things to Consider When Preparing Taxes After a Cash-Out Refinance
It's important for homeowners to keep track of all documents related to the cash-out refinance when filing taxes. This includes closing documents that provide information about the mortgage interest rate, the points paid to reduce the rate, and any money borrowed. These documents should be included as part of the mortgage interest deduction. Additionally, homeowners should be aware of any capital gains taxes that would be due on any profit from a cash-out refinance.
Conclusion
When making a decision about a cash-out refinance, it's important to understand the tax implications. The interest paid on the loan is typically tax deductible, while any proceeds from the loan are subject to capital gains taxes. Homeowners should be sure to keep track of all documents related to the cash-out refinance when filing taxes in order to maximize their deductions.