The Home Mortgage Interest Tax Deduction
Paying mortgage interest can still reduce your taxable income
Owning your own home comes with a few nice tax perks. One of them is that the interest you must pay on your mortgage loan is tax-deductible.
The Tax Cuts and Jobs Act (TCJA) affected this deduction somewhat when it was signed into law on December 22, 2017, but it's still available. The act does not eliminate the deduction from the tax code entirely, but it does set some new limits and restrictions.
Claiming Home Mortgage Interest
You must itemize your deductions on Form 1040, Schedule A to claim mortgage interest. This means foregoing the standard deduction for your filing status—it's an either/or situation. You can itemize, or you can claim the standard deduction, but you can't do both.
Is It Worth Itemizing in 2019?
Schedule A also covers many other deductible expenses, including real estate property taxes, medical expenses, and charitable contributions. Sometimes all these add up to more than the standard deduction for your filing status, making it worth the time and effort involved with itemizing your deductions. Otherwise, you'll save more tax dollars by skipping the home mortgage interest deduction and claiming the standard deduction instead.
As of the 2019 tax year, the standard deduction is $12,200 for single taxpayers and married taxpayers who filed separate returns, up from $12,000 in the 2018 tax year. It's $24,400 for married taxpayers who filed jointly and for qualifying widow(er)s, up from $24,000 in 2018. And $18,350 for those who qualified as head of household, up from $18,000 in 2018.
This is more than double the standard deductions that were in place in 2017 for the tax return you filed in 2018. As a result, you might not have enough itemized deductions overall to surpass the standard deduction you're entitled to for your filing status.
It's usually advisable to complete Schedule A and compare the total of your itemized deductions to your standard deduction to find out which method is most advantageous for you.
What Loans Are Covered?
In 2017, the mortgage interest deduction included that which you paid on loans to buy a home, on home equity lines of credit, and on construction loans. But the TCJA eliminated the deduction for home equity debt beginning with the 2018 tax year—the return you'll file in 2019—unless you can prove that the loan was taken out to "substantially improve your residence."
You must indeed use the money for that purpose. In other words, you're out of luck if you refinance to pay for your child's college education. The deduction is also limited to interest you paid on your main home and/or a second home. Interest paid on third or fourth homes isn't deductible. That hasn't changed.
You must also be legally on the hook for the loan—the debt can't be in someone else's name unless it's your spouse and you're filing a joint return. It must be a bona fide loan in that you have a contractual obligation to pay it back. Finally, your home must act as security for the loan and your mortgage documents must clearly state this.
Your home can be a single family dwelling, a condo, a mobile home, a cooperative, or even a boat—pretty much any property that has "sleeping, cooking and toilet facilities," according to the Internal Revenue Service.
Dollar Limitations on the Deduction
Loans used to buy or build a residence are called "home acquisition debt." The term refers to any loan you take for the purpose of acquiring, constructing, or substantially improving a qualified home. You could deduct interest on home acquisition debts of up to $1 million for your main home and/or your secondary residence back in 2017, but the TCJA has reduced this to $750,000 beginning with tax year 2018.
Let's say you borrowed $800,000 against your primary residence and $400,000 against your secondary residence. Both loans were used solely to acquire or substantially improve the properties. Together, the loans add up to $1.2 million, exceeding the $750,000 limit under the terms of the TCJA.
You can only claim a mortgage interest deduction for the percentage attributable to the first $750,000 you borrowed. Interest associated with that other $450,000 is just money that you spent. You don't get a tax break for it.
Determining How Much Interest You Paid
You should receive a Form 1098, a Mortgage Interest Statement, from your mortgage lender at the beginning of each new tax year. This form reports the total interest you paid during the previous year. You don't have to attach the form to your tax return because the financial institution must also send a copy of Form 1098 directly to the IRS, so the IRS already has it.
Make sure the mortgage interest deduction you claim on Schedule A matches the amount reported on Form 1098. The amount you can deduct might be less than the total amount that appears on the form based on certain limitations. Keep Form 1098 with a copy of your filed tax return for at least four years.
If you jointly hold the mortgage with someone else who's not your spouse, you're entitled to deduct only the interest that you paid personally, regardless of which of you received Form 1098 from the lender. But there's a loophole here.
Co-borrowers who make payments specifically to prevent foreclosure can deduct the interest paid even if the interest was supposed to be paid by someone else.
Home Construction Loans
You can still deduct interest on mortgages used to pay for construction expenses. The proceeds must be used to acquire the land and for construction of the home. Expenses incurred in the 24 months before construction is completed count toward the $750,000 limit on home acquisition debt.
But there's a catch here, too. If you deduct interest on a construction loan for two years and you then decide to sell the property rather than move in and use it as your residence, you might have to amend your tax returns for the years you deducted the interest to characterize it as investment interest instead. This can limit its deductibility.
In other words, the IRS might want some money back.
Points paid on acquisition debt for primary and secondary homes are fully deductible in the year they're paid. Points aren't always reported on Form 1098, but you might be able to find them on your settlement statement. Otherwise, ask your lender.
When to Seek the Help of a Tax Professional
Figuring out the home mortgage interest deduction is straightforward for some taxpayers, but not so much for others. Add up the interest reported on your Forms 1098 and enter the total on Schedule A. You can use the worksheet in Publication 936 to calculate your allowable deduction.
You might want to check with a tax professional, however, if you bought or sold property during the tax year, or if your home acquisition debt exceeds the $750,000 limit. In fact, it would make sense to seek the advice of a tax pro even before you buy or sell real estate if only to get a handle on the tax consequences of your decision.