Fannie Mae Guidance on Federal Income Tax Repayment Plans

We’re officially in the midst of tax season (if you haven’t done yours already, consider this your reminder!), which magnifies the amount of borrowers we encounter who owe back taxes to the IRS.

Owed taxes that aren’t paid can result in tax liens, which take superior position to mortgage liens – an item of great concern for lenders.

While Tax Liens will always need to be repaid before a borrower is eligible for a Conventional loan, per a recent change to the Fannie Mae Selling Guide borrowers who have entered into e repayment plan are eligible under the following conditions:

When a borrower has entered into an installment agreement with the IRS to repay delinquent federal income taxes, the lender may include the monthly payment amount as part of the borrower’s monthly debt obligations (in lieu of requiring payment in full) if:

  • There is no indication that a Notice of Federal Tax Lien has been filed against the borrower in the county in which the subject property is located.
  • The lender obtains the following documentation:
    • an approved IRS installment agreement with the terms of repayment, including the monthly payment amount and total amount due; and
    • evidence the borrower is current on the payments associated with the tax installment plan. Acceptable evidence includes the most recent payment reminder from the IRS, reflecting the last payment amount and date and the next payment amount owed and due date. At least one payment must have been made prior to closing.

Note: The payments on a federal income tax installment agreement can be excluded from the borrower’s DTI ratio if the agreement meets the Fannie Mae terms for Debts Paid by Others, or Installment Debt.

Tax Deductible Items for 2013 Mortgages

Here is a general overview of some information that may be helpful to you and your CPA as you prepare your 2013 tax returns:

Points Paid on a Home Purchase in 2013

Item 803 on the HUD-1 – If the adjusted origination charges on line 803 include points paid to your mortgage company in exchange for a lower interest rate, you can deduct those points in the year paid… even if they are paid by the seller.

Points Paid on a Mortgage Refinance in 2013

Item 803 on the HUD-1 – If the adjusted origination charges on line 803 include points paid to your mortgage company in exchange for a lower interest rate, you can deduct those points in the following manner:

  • You can deduct over the life of the mortgage all points paid on the portion of the mortgage proceeds that were not used for home improvements (for example, if you refinance your mortgage to reduce your interest rate, but do not take any cash out for home improvements).
  • You can deduct this year all points paid on the portion of the mortgage proceeds that were used for home improvements (if you received cash-out and are using that cash-out for home improvements). Remember, any points paid on the portion of the mortgage NOT used for home improvements must be spread out over the life of the loan. For example, assume you refinance an old $200,000 mortgage into a new $300,000 mortgage and walk away with $100,000 to be used for home improvements. In this case, 1/3 of your points are fully deductible this year and 2/3rds of your points are deductible over the life of the loan.

Upfront Mortgage Insurance

Item 902 on the HUD-1 – You can generally deduct upfront mortgage insurance on FHA and conventional loans over 84 months if you qualify for the mortgage insurance deduction. However, you may be able to fully deduct the VA funding fee and/or the RHS guarantee fee on your 2013 tax returns, if:

  • You qualify for the mortgage insurance deduction, and,
  • If your loan was guaranteed by the Veterans Administration or the Rural Housing Service.

Property Taxes (actual and pro-rated)

Items 106 and 107 on the HUD-1 – Property taxes are generally deductible in the year they are paid. These are listed as items 106 and 107 on the HUD-1. Whatever you put into your escrow account for property taxes is listed as items 1004, 1005, or 1006 on the HUD-1. These are deductible in the year that your mortgage company pays them. Assessments are listed as item 108 on the HUD-1, and these are generally not deductible.

Pre-paid Interest

Item 901 on the HUD-1 – Mortgage interest is calculated in arrears. This means that your monthly mortgage payment actually covers the month that just passed. For example, your February payment covers the interest for the month of January, your January payment covers the interest for the month of December, and so on. Oftentimes, when you refinance a mortgage or buy a new home, you “skip” a month’s worth of mortgage payments. That is why you sometimes pay “daily interest charges” on line 901 of the HUD-1 statement. These daily interest charges cover the interest for the current month. If your mortgage interest is deductible, then anything you pay on line 901 is also deductible (this will be included in the 1098 statement that you receive from your mortgage company).

Previous Year Points Not Yet Deducted

You may be able to deduct the remaining portion of the original points paid on an old mortgage if you refinanced that old mortgage in 2013. For example, assume you paid points on a refinance transaction 3 years ago. You probably were not able to deduct all the points you paid in the year they were paid. Instead, you had to spread that deduction out over the 30-year life of your mortgage. So, assume you’ve deducted 3/30ths of those points so far, and you refinanced your mortgage again in 2013. You can now deduct the remaining 27/30ths of those old points that you have not yet deducted.

Pre-Payment Penalties

A pre-payment penalty paid on an old loan would be deductible on your 2013 tax returns as long as the new loan was taken out with a different lender than the old loan.

Other Closing Costs

Closing costs not mentioned above are not tax deductible. However, they are added to your “tax basis” for purpose of calculating your capital gain when you sell the property. In other words, you may be able to reduce your capital gains tax (if applicable) when you sell the property in the future because your home purchase closing costs get added to your cost basis.

Distinction Between a Qualified Residence and an Investment Property

Everything mentioned above pertains to a mortgage transaction involving a primary home or vacation home that is elected as a “qualified residence” for tax purposes. If your transaction involved an investment property, see IRS Publication 527.

PLEASE NOTE: THIS ARTICLE AND OVERVIEW IS PROVIDED FOR INFORMATIONAL PURPOSES ONLY AND DOES NOT CONSTITUTE LEGAL, TAX, OR FINANCIAL ADVICE. PLEASE CONSULT WITH A QUALIFIED TAX ADVISOR FOR SPECIFIC ADVICE PERTAINING TO YOUR SITUATION. FOR MORE INFORMATION ON ANY OF THESE ITEMS, PLEASE REFERENCE IRS PUBLICATION 936.

Don Parsons
Commerce Mortgage
[emailprotect]don@donparsons.com[/emailprotect] http://www.donparsons.com
(949) 428-3099
2130 Main Street, Suite 260,
Huntington Beach, California 92648