With the passing of the Tax Cuts and Jobs Act, there were some important changes in the legislation which are both temporary in nature and effective through 2025 regarding mortgage interest.
The first change relates to the limitation on the amount of acquisition indebtedness that qualifies for the deductibility of interest. The limitation had decreased from $1,000,000 to $750,000 for married taxpayers. This limitation applies for taxable years beginning after December 31, 2017 and is applicable for acquisition indebtedness incurred after December 14, 2017. For acquisition indebtedness incurred before December 15, 2017, the $1,000,000 limitation applies. The definition of acquisition indebtedness has not changed under the new law. Acquisition indebtedness is defined as being incurred in acquiring, constructing or substantially improving any qualified residence and is secured by such residence.
The next change relates to home equity indebtedness. For any interest on home equity indebtedness, no deduction is allowed for taxable years beginning in 2018. The definition of home equity indebtedness has not changed under the new law. Home equity indebtedness is any indebtedness (other than acquisition indebtedness) secured by a qualified residence.
Another change regarding mortgage interest deductibility under the Tax Cuts and Jobs Act is the determination of what is “acquisition indebtedness” is based NOT how the loan is structured or what bank or mortgage servicer calls it, but how the mortgage proceeds were actually used. The IRS confirmed this with its’ News Release IR-2018-32, Interest on Home Equity Loans Often Still Deductible under New Law. The release provided several examples, reproduced below, to illustrate these points.
Example 1: In January 2018, a taxpayer takes out a $500,000 mortgage to purchase a main home with a fair market value of $800,000. In February 2018, the taxpayer takes out a $250,000 home equity loan to put an addition on the main home. Both loans are secured by the main home and the total does not exceed the cost of the home. Because the total amount of both loans does not exceed $750,000, all of the interest paid on the loans is deductible. However, if the taxpayer used the home equity loan proceeds for personal expenses, such as paying off student loans and credit cards, then the interest on the home equity loan would not be deductible.
Example 2: In January 2018, a taxpayer takes out a $500,000 mortgage to purchase a main home. The loan is secured by the main home. In February 2018, the taxpayer takes out a $250,000 loan to purchase a vacation home. The loan is secured by the vacation home. Because the total amount of both mortgages does not exceed $750,000, all of the interest paid on both mortgages is deductible. However, if the taxpayer took out a $250,000 home equity loan on the main home to purchase the vacation home, then the interest on the home equity loan would not be deductible.
Example 3: In January 2018, a taxpayer takes out a $500,000 mortgage to purchase a main home. The loan is secured by the main home. In February 2018, the taxpayer takes out a $500,000 loan to purchase a vacation home. The loan is secured by the vacation home. Because the total amount of both mortgages exceeds $750,000, not all of the interest paid on the mortgages is deductible. A percentage of the total interest paid is deductible (see Publication 936).
If you have any questions or need additional information, please contact us.
John Loughlin, CPA
610-687-1600
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