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Need a tax-benefit formula


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2010 Dec 3, 9:16am   1,345 views  3 comments

by Patrick   ➕follow (55)   💰tip   ignore  

Does anyone know a formula that transforms a nominal mortgage interest rate into an effective after-tax interest rate?

The input parameters:

  • Nominal interest rate
  • Income
  • Points (percent paid as upfront fee)
  • Loan amount
  • Term (average mortgage lasts 7 years before refinance or sale)
  • Other deductions (medical, donations, etc)

The output number: simple interest rate that has same effect as all the above

It's actually pretty hard. You might get a 28% deduction on the first N dollars of interest, and then only a 15% deduction on more of it. And then there's the cap of $1M total mortgage interest deduction. And the fact you get $10K or so as a standard deduction anyway.

#housing

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1   Â¥   2010 Dec 3, 3:33pm  

Too many variables (down the road) to worry about points and refis IMO. Eg. Rates going down means you can refi and lower your monthly payment, rates going up probably means home prices are popping, things are good -- and selling would mean losing the Prop 13 valuation, so rates moving higher militates against selling for that reason.

Points are kinda trivial in the scheme of things.

Marginal tax rates can be pulled from a table.

If you want to be scientific you should model the loan over the first 20-30 years. That's what my spreadsheet does. I even try to model compounding gains of the monthly "opportunity cost" of higher expenses of buying vs. renting.

You shouldn't worry about $1M+, these people should be talking to their tax professionals not some geeks on the internet.

2   Patrick   2010 Dec 4, 1:34am  

True, I can't tell what other deductions someone has, but I can let them enter that. So I'll add that as a parameter to my original post above.

I'll let people enter the term of the loan they want, but I want to warn them that most people use 30 years when it's just not realistic. The closing costs should really be amortized over the average life of a mortgage, which is 7 years.

I'm working on a rent-vs-buy calculator for my site that makes everything explicit. The NY Times calculator is very good, but they don't tell you the formula they use.

3   Â¥   2010 Dec 4, 1:41am  

nevermind

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