 Is
prepayment penalty tax-deductible?
|  Dear
Tax Talk,
I paid a prepayment penalty when I refinanced my
mortgage. Is this penalty tax-deductible? -- Azim
 Dear
Azim,
A mortgage lender will sometimes charge a penalty
for the early payoff of a loan. Usually, the penalty is only for
an early payoff in the first few years of the loan. The penalty
is considered an interest charge and is deductible in the same manner
as the underlying mortgage interest. For example, if it's a home
mortgage loan on your first or second home, the penalty would be
deductible on Schedule A as home-mortgage interest. If the loan
is for a rental property, then the interest would be deducted on
Schedule E.
Similarly, points that had been deducted over the
life of the loan would be deductible in the year that the underlying
mortgage is paid off, with one exception: In a refinance, points
paid must be deducted over the life of the new loan, while points
paid on the purchase of a principal residence can be deducted upfront.
For example, in a refinance, if the new mortgage term
is for 30 years and you paid $3,000 in points, you would claim an
annual deduction of $100 for the points paid. If you refinance,
sell or pay off the mortgage early, you can deduct the remainder
of the points in that year. The one exception to the deduction would
be if you refinance with the existing lender. In this case you would
have to continue to amortize the remaining points over the life
of the new loan, together with any points paid on the new refinance.
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