The IRS Announces That Many Home Equity Loans Are Still Tax Deductible

Tax Deductible home equity loan home equity line of credit HELOC second mortgage

On February 21, 2018, the Internal Revenue Service (IRS) has announced that in the majority of cases, homeowners can continue to deduct interest paid on home equity loans. 

With the goal of clarifying the concerns raised by taxpayers and tax professionals, the IRS emphasized  in a media statement that “despite newly-enacted restrictions on home mortgages, taxpayers can often still deduct interest on a home equity loan, home equity line of credit (HELOC) or second mortgage, regardless of how the loan is labelled. The Tax Cuts and Jobs Act of 2017, enacted Dec. 22, suspends from 2018 until 2026 the deduction for interest paid on home equity loans and lines of credit, unless they are used to buy, build or substantially improve the taxpayer’s home that secures the loan.”

To further clarify the new law, the IRS explained that if a home equity loan is used to build an addition onto an existing home, the interest would be tax deductible. However, if a home equity loan is used to pay for non-home expenses such as credit card debt, then the interest would not be deductible.  

The IRS adds, “As under prior law, the loan must be secured by the taxpayer’s main home or second home (known as a qualified residence), not exceed the cost of the home and meet other requirements.”

New dollar limit on total qualified residence loan balance

For those considering getting a mortgage, the new tax law charges a lower dollar limit on mortgages qualifying for the home mortgage interest deduction. Starting in 2018, taxpayers may only deduct interest on $750,000 of qualified residence loans. For married taxpayers filing a separate return, the limit is $375,000. These limits decreased from the previous residence loan amount of $1 million, and $500,000 for married taxpayers filing a separate return. 

These limits pertain to the combined amount of loans used to buy, build or improve the taxpayer’s main home and second home.

Here are examples provided by the IRS to further clarify the new tax law:

  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 onto the main home. Both loans are secured by the main home and the total does not exceed the cost of the home. Since the total amount of the two loans doesn’t exceed $750,000, all of the interest paid on the loans is deductible. (However, the interest on the home equity loan would not be deductible if the taxpayer used the proceeds for personal expenses.)
  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 doesn’t 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.
  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).

For more information about impacts from the new tax law, visit the Tax Reform page on IRS.gov.

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