Mortgage interest deduction

Some questions about the mortgage interest deduction:

Scenario 1:

Purchased my home for $250,000. Over time put in $200,000 of improvements. Currently owe $130,000 on the primary mortgage, and $160,000 on a HELOC, $70K of which was used to purchase and improve a rental property. This year I deducted interest from $90,000 of the HELOC on schedule A, and $70,000 on schedule E.

I'm considering refinancing for $500,000 and using the $210,000 I cash out to buy a single-premium life insurance policy (this is for financial aid for college reasons).

How much of this interest on the $500,000 mortgage is now deductible?

Scenario 2:

Purchased a rental property for $150,000. Over time have done around $75,000 in improvements. Current mortgage balance is around $90,000.

If I refinance this property for $175,000, how much of the interest of this is deductible? Does it depend on what I use the proceeds for?

In general, if the mortgage amount is smaller than the purchase price

  • improvements, is it deductible?

Thanks for any help.

Reply to
way111
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That depends on whether interest on debt to fund a single premium life insurance policy is deductible as investment interest.

On a personal home mortgage with mixed use of the proceeds, the first principal payments reduce the amounts generating interest not deductible as home mortgage interest (investment interest, personal interest, Schedule C, E, or F interest, etc). Once that portion has been paid off, the next principal payments apply to the balance generating interest deductible as home equity indebtedness. The last principal amount to be paid off is any portion qualifying as acquisition indebtedness.

It depends on what you use the proceeds for.

Not necessarily. Once home acquisition indebtedness is paid down, it cannot increase again unless the proceeds pay for additional improvements in the home.

Reply to
Bill Brown

How does one determine this?

What's the difference between "home equity indebtedness" and "home acquisition indebtedness"?

Reply to
removeps-groups

A mortgage is a loan secured by the home, which the taxpayer is obligated to pay and is, generally recorded with the local government.

Acquisition indebtedness is a mortgage used to buy, build or improve the home.

Home Equity indebtedness is a mortgage that is not Acquisition indebtedness.

You can take a schedule A deduction for home acquisition indebtedness of up to $1 million of principal and an additional 100,000 of home equity indebtedness for your main home plus one second home.

Principal in excess of $1million of home acquisition debt is treated as home equity indebtedness.

Interest on home equity debt, but not home acquisition debt, is an AMT preference item which can add to AMT.

Reply to
Arthur Kamlet

This sounds good, and I am not trying to contradict it, but is there an IRS pub somewhere which describes this treatment, or provides a worksheet? My inclination would be to treat the different uses (other than personal) as different virtual mortgages and amortize each one separately (assuming a fixed-rate, fully amortized mortgage). In other words, the principal portion of each payment would reduce the balance on which interest is paid for *each* use, in proportion to the original share of the proceeds used.

No matter what, this whole area clearly can require complicated, detailed record-keeping.

See IRS Pub 936, which also includes a handy worksheet (table 1, "Worksheet To Figure Your Qualified Loan Limit and Deductible Home Mortgage Interest For the Current Year"). Don't forget also the third category of home mortgage interest debt, "Grandfathered". Anyone whose pre-1987 mortgage end date has not yet passed (whether the mortgage has been paid off or not), and who has been living in the same house since before May 1987, and who had a mortgage at that time and has never fully paid it off, probably has some grandfathered debt.

-Mark Bole

Reply to
Mark Bole

See Temporary Reg. §1.163-8T(d) Debt repayments and T.D. 8145 Allocation of Interest Expense Among Expenditures.

Reply to
Bill Brown

After diligently looking up and reviewing these docs, all I can say is, haven't they ever heard of indentation?

I also found a key item I was looking for in Pub 936 (2007), pg. 10 under "Mixed Use Mortgages":

Principal payments on a mixed-use mortgage are applied in full to each category of debt, until its balance is zero, in the following order:

a. First, any home equity debt, b. Next, any grandfathered debt, and c. Finally, any home acquisition debt.

I assume this also applies to the different rules under AMT for deducting qualified home mortgage interest.

Instead of allocating the interest and principal payments pro rata across the different types of debt, it is paid down in a LIFO fashion. This actually benefits the taxpayer, in other words by taking out equity debt they essentially "lock in" the balance on their acquisition debt (upon which deductible interest is paid) at a fixed amount until they pay down all of the equity debt.

-Mark Bole

Reply to
Mark Bole

Apparently not.

Reply to
Bill Brown

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