Looking for a tax shelter, literally? Purchasing a home is probably the single best way to cut your yearly tax burden. For many consumers, purchasing a home opens the door to the world of the itemized deduction. When consumers purchase a home, the mortgage interest deduction and real estate tax deduction puts them above the standard yearly deduction allocated by the IRS, allowing them to deduct other expenses such as cash donations to your church, clothes you donated to charity, state and local income taxes, even tax preparation fees.

In fact, the home mortgage deduction is on the rise, from about $20 billion in 1981 to $38.8 billion in 2002 to nearly $70 billion in 2003, according to estimates from the Joint Committee on Taxation.

Law professor Deborah Geier shows the home-mortgage deduction is the third-largest single "tax expenditure" behind the deductions companies take for contributions to pension plans and for health-care premiums. Those add up to more than $400 billion over the next four years, according to the Joint Committee.

In a possible response to keeping funds in the Treasury, the Internal Revenue Service has changed the tax codes for mortgage interest. IRS publication 936 now divides home mortgages into three categories: 1.Home Acquisition Debt, 2. Refinanced Home Acquisition Debt & 3. Home Equity Debt. "In most cases, you will be able to deduct all of your home mortgage interest. Whether it is all deductible depends on the date you took out the mortgage, the amount of the mortgage, and your use of its proceeds", according to the IRS.

First of all, the IRS mandates interest only deductible for a qualified home in a secured loan. A secured loan basically includes a legal instrument such as a mortgage, deed of trust or land contract. The home must be used a collateral. In other words, only your first or second home qualifies. If you have vacation homes or rentals, check out the tax codes for specifics on the eligibility of those deductions. Wrap-around debts, also known as, seller financing are NOT secured unless "recorded or otherwise perfected under state law." Crunching the numbers: All mortgage interest for loans taken prior to October 1987 is fully deductible. But, for loans after 1987, the IRS shows, "The total amount you can treat as home acquisition debt (basically a mortgage) at any time on your main home and second home cannot be more than $1 million ($500,000 if married filing separately)."

If you refinance your mortgage, the second mortgage qualifies for the deduction only up to the value of the previous mortgagee at the time of refinancing. There is the reason why a home-equity loan could provide better tax relief if your previous mortgage is years old. The IRS limits the home equity debt deduction to the smaller of: $100,000 ($50,000 if married filing separately) or the total of each home's fair market value (FMV) reduced (but not below zero) by the amount of its home acquisition debt and grandfathered debt. Determine the FMV and the outstanding home acquisition and grandfathered debt for each home on the date that the last debt was secured by the home.

The IRS also has guidelines for mortgages not used for home acquisition or improvements if you meet certain guidelines. For example, if you are building a home and take out the mortgage before the work is completed.

Purchasing a new home could turn into one of the best ways for you to save yearly capital. The current allowable deduction put many consumers into the itemized deduction range and opens the door to saving more on your yearly taxes. You have heard it takes money to make money. Spending some cash on a new home could save you thousands maybe millions of dollars in the big picture.