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Tax Implications From Refinancing; Cash Out ≠ Income

A young woman sits on a couch in blue jeans and reviews her taxes after completing a cash out refinance.

Borrowers are often far too worried about tax implications from refinancing – b/c they are usually negligible. 

APPRAISALS & PROPERTY TAXES

No matter how high someone’s appraisal comes in (over the original purchase price), it will not affect their property taxes.

This is b/c appraisals performed for purposes of obtaining financing are for lenders only and are not public record (so local tax authorities do not see them).

In California, the final purchase price is public record. The city can see real estate purchase prices when reassessing values for the new tax bill. Texas, however, is a nondisclosure state. This means that the purchase price of a home is not required to be publicly disclosed.

APPRECIATION & CAPITAL GAINS

Similarly, no matter how high an appraisal comes in over the original purchase price, borrowers will NOT be subject to any capital gains income tax liabilities either.

Borrowers are only subject to capital gains taxes if they sell their properties, and if the gains exceed the Lifetime Exemption Amounts.

CASH OUT ≠ INCOME

Another concern borrowers have is whether or not pulling cash out from their homes (by increasing the amount they owe) will be deemed taxable income.

But, pulling cash out is merely another form of borrowing, and borrowed money is never considered income by the IRS. 

SO, even if someone bought a home for $100,000 and watched it appreciate to $1 million and then pulled out $500,000 of “cash,” that person would have no capital gains liabilities and no taxable income.

And the $1 million appraisal would have no effect on property taxes. 

TAX DEDUCTIBILITY OF FEES & INTEREST

This is the one area where refis can affect income taxes but the effect is negligible in most cases.

POINTS OR ORIGINATION FEES

Points or origination fees paid in association with purchase money financing are tax deductible in the year of the purchase in most cases.

This is not the case for refinances, however, as points and origination fees have to be amortized over a period of years.

BUT – most refis are no cost and/or “no points” at worst, so this concern is usually a moot point.  

INTEREST

In addition, the interest incurred against the “cash out” portion of the loan is technically only tax deductible if the cash out is used for capital improvements. 

Capital improvements can include such items as a new roof, new windows, a new addition, a new pool, a new kitchen, etc.

I have been told by various CPAs, however, that most borrowers deduct all of their interest from their mortgage in any case (irrespective of the purpose of the mortgage) and that the IRS does not scrutinize loan purposes and the use of cash or proceeds.

This of course could change at any time, and, as always, we strongly recommend that borrowers consult with their own CPAs or tax advisors before making any decisions that could impact their tax liability.

And, even if the interest on the cash out portion of a mortgage is not deemed tax deductible, the effect on someone’s overall tax liability will be minimal in most cases.

Jay Voorhees
Founder/Broker | JVM Lending
(855) 855-4491 | DRE# 1197176, NMLS# 310167

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