From the Patrick Parker Realty Tax Season Blog Series
Are Home Interest Loans Deductible From Taxes?
The federal government encourages you to purchase a home by allowing for the deduction of mortgage interest. Although other requirements exist, only the interest you actually pay during the year is eligible for a deduction. If you make a late mortgage payment in the following tax year, you must wait until that year to claim the deduction.
Collateral In Your Home
It’s likely that your mortgage lender has a security interest in your home as collateral for repayment of the loan. This security interest generally allows the bank to remain on the title to your home. As long as the mortgage document you sign includes this type of security interest, then you may be eligible to deduct your interest payments.
When checking your mortgage document, it may either expressly state this or will provide that in the event you default on mortgage payments, the bank can foreclose on your home and apply all sale proceeds to the outstanding mortgage balance. However, if you use a credit card to subsidize the purchase of your home, these interest payments are not deductible since the credit card company doesn’t have any security interest in your home.
Two Qualified Homes
The IRS limits the number of homes eligible for the deduction to your main home that you principally reside in plus one other home that you own. The tax law does not grant you discretion in choosing which residence to treat as the main home. This must always be the place where you ordinarily live for a majority of the year.
However, you can choose any second home to qualify for the deduction. Whichever second home you choose is only binding for the current tax year. Next year, you can deduct the mortgage interest on a different second home if it provides greater tax savings.
To prevent taxpayers from claiming a deduction for luxurious homes, the law limits the deduction to the interest that you pay on up to $1 million in total mortgage balances. This $1 million limitation applies to the total of both mortgages.
For example, if you owe $600,000 on your main home and $800,000 on a vacation home, you cannot deduct the interest you pay that relates to the excess $400,000. In some cases, the excess interest may qualify for a deduction if it relates to a home equity loan.
Home Equity Loan Interest
If you take out a home equity loan, your interest payments may qualify for a deduction in addition to your mortgage interest. To qualify, you must have obtained the loan after Oct 13, 1987 and it must also be secured by your home.
For tax purposes, only the balance of the loan that is the smaller of $100,000 or your equity in the home qualifies for the interest deduction. Your equity is equal to the amount you could sell the home for minus the amount you still owe on the mortgage.
Reporting the Deduction
The deductions for home equity and mortgage interest are only available to taxpayers who are eligible to itemize deductions on a Schedule A attachment to their Form 1040. Eligibility to itemize requires that your total itemized deductions, including home interest, be greater than the standard deduction amount.
Keep in mind that this is general information designed to help you put these valuable deductions on your radar. Patrick Parker Realty Agents and Realtors are not certified accountants. Please be sure to check with your tax adviser to see if you qualify for a particular credit or deduction.
Check back in with the Patrick Parker Realty Blog each Tuesday, Thursday and Saturday for more Tax Season Blog Series’ Posts and sign up for the Patrick Parker Realty eNewsletter to have updates delivered to your inbox monthly.
The Blog Series will cover many topics such as How do I qualify for a home seller break?, How do I qualify for a home buyer break?, Do I have to report the home sale on my return?, What is the gain on the sale of my home?, What Are Home Renovation Tax Credits?, Deducting Mortgage Interest, Taking the First-Time Homebuyer Credit, How to Avoid Taxes on Canceled Mortgage Debt, Tax Incentives as they relate to Life’s biggest transitions, such as Marriage, the Birth of a Baby, Divorce, or the death of a Spouse and much more. New posts in this Blog Series will be published twice weekly.
For more information about paying taxes on the sale or purchase of your home or any other questions you have about this article please speak with your tax professional or visit www.irs.gov.