Most taxpayers know that a deduction is allowed on their tax return for mortgage interest. What they do not know is what technically qualifies them for the deduction or that certain pitfalls exist that could limit or disallow the deduction in its entirety.
Home mortgage interest is any interest paid on a loan secured by the taxpayer’s home. The loan may be a mortgage to buy the home, a second mortgage, a line of credit, or a home equity loan.
A qualified residence must secure acquisition and home equity indebtedness. A qualified residence includes the taxpayer’s principal residence, and one other residence that is not rented out at any time during the tax year, or that is used by the taxpayer for a number of days exceed- ing the greater of 14 days or 10 percent of the number of days that it is rented out at a fair value. There must be bathroom facilities, sleeping facilities and kitchen fa- cilities. This may include a house, condo, co-op, mobile home, house trailer, or boat.
Per the Tax Court: “a home is a ‘qualified residence’ only if it is the taxpayer’s “principal residence” or a secondary residence that is occupied for more than 14 days during the year (Al-Soufi v.Comm T.C.Memo 2015-68).
Home acquisition debt is a mortgage that is secured after October 13, 1987 to buy, build, or substantially improve a qualified home. If the amount of the mortgage is more than the cost of the home plus any substantial improvements, only the debt that is not more than the cost of the home plus improvements qualifies as home acquisition debt. The remainder may qualify as home equity debt.
The total amount that can be treated as home acquisition debt on a principal residence and secondary home cannot exceed $1 million ($500,000 if married filing separately). The aggregate amount of the home equity indebtedness may not exceed $100,000 ($50,000 for married filing separately). Interest attributed to debt over these limits is nondeductible personal interest.
The IRS has ruled that home acquisition debt may also constitute home equity debt to the extent the debt exceeds $1 million, but subject to the $100,000 and fair market value limitations.
On the superficial levels, one might assume that all of the mortgage interest expense listed on the yearend mortgage interest statement Form 1098 is fully deductible on one’s yearend tax return; but that may not be the case and the IRS has programs to catch this innocent error.