Deducting Real Estate Taxes: How Do You Know If You Qualify?

Editor's Note: This article is part of our 2014 Tax Tips series. Robert Flach is an expert with more than 40 years of experience as a tax professional and also blogs as The Wandering Tax Pro.

NEW YORK (MainStreet) — Generally you can only deduct the real estate taxes and home mortgage interest for a property on Schedule A if you are legally responsible to pay the tax or mortgage – your name is on the title - and you actually make the payments. But there are situations where taxpayers who do not hold title to the property can claim the tax and interest deductions.

Sometimes a young married couple just starting out doesn't have enough income or credit to get a mortgage, so their parents will purchase the house. The deed and mortgage is recorded in the name of the parents, who live elsewhere. The young couple live in the property as their personal residence, maintain it, and pay all the bills, including the property taxes and the monthly mortgage payment.

Even though the young couple does not have legal title to the residence, and are not legally responsible for making the tax and mortgage payments, they have the exclusive "burden and benefit" of the property – they occupy the property exclusively, make the tax and mortgage payments and maintain the property - and can deduct the real estate taxes and mortgage interest paid as the "equitable and beneficial owner."

If the title was in the name of the young couple, but the parents actually paid the real estate taxes directly to the municipality, the parents could not deduct the taxes they paid, as they were not legally responsible for the payment. The tax payments made by the parents are considered to be a gift to the couple. It is as if the parents gave the money directly to the couple and they used it to make the real estate tax payments. In such a case the couple would claim the tax deduction for the taxes paid.

I have also had elderly clients who have transferred title of their home to their children to avoid having the property go through probate at their passing. The elderly clients continue to live in the home as their personal residence and they make all tax and mortgage payments and maintain the property under what is known as a "life estate" agreement.

In a life estate the "life tenant" (in this case the elderly parent) has full use and possession of the property for the duration of his or her life. The children cannot evict the parent or sell the property as long as the parent chooses to live in the home. At the parent's passing the children, whose names are on the title, take possession of the property and can do with it whatever they wish.

In this situation the "life tenant" – the elderly parent – can claim the tax deductions for real estate taxes and mortgage interest paid on the property.

With a life estate when the parent passes the children get a "stepped-up" basis on the property. Their "cost basis" is the fair market value of the property on the date of death of the parent, as if they inherited the property through the parent's estate.

So you do not have to actually "own" a property to be able to claim tax deductions for real estate taxes and mortgage interest.

--Written by Robert D. Flach for MainStreet

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