HELOC Interest Still Deductible

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Changes to tax laws may have you confused about what you can deduct and what’s no longer allowed.

When it comes to interest on home equity loans and lines of credit, all is not lost after
all.

According to the latest advisory from the Internal Revenue Service, homeowning taxpayers can, in many cases, continue to write off the interest paid on home equity financing. This, despite newly enacted restrictions on home mortgages in the Tax Cuts and Jobs Act, enacted in late December.

Yes, the law suspends from 2018 to 2026 the deduction for interest paid on home equity loans, home equity lines of credit, or HELOCs, and second mortgages. The deduction is suspended, but only, the IRS now explains, if the proceeds are used to pay for living expenses, medical expenses or vacations, among other personal expenditures.

Regardless of how the loan is labeled, if the financing is used to buy, build or substantially improve the home that secures the loan, interest paid on it during the tax year is deductible in that tax year.

“This is a major victory for remodelers and for homeowners who want to invest in their homes,” says Randy Noel, chairman of the National Association of Home Builders and a custom builder from LaPlace, La.

Under the new law, interest on home equity financing used to build an addition or outfit an unfinished basement is typically deductible, while interest on the same loan used to pay credit card debt is not. As was the case under the prior law, the loan must be secured by the taxpayer’s main home or second home (known as a qualified residence), not to exceed the cost of the home and meet other requirements.

At the same time, though, the new rules imposed a new dollar limitation on the loan balances that qualify for the tax benefit. For one thing, a lower dollar limit is now in place on mortgages qualifying for the home mortgage interest deduction.

Beginning in 2018, taxpayers may only deduct interest on $750,000 worth of qualified residence loans. The limit is $375,000 for a married taxpayer filing a separate return. These are down from the prior limits of $1 million, or $500,000 for a married taxpayer filing a separate return.

Furthermore, the new ceilings apply to the combined amount of loans used to buy, build or substantially improve the taxpayer’s main or second home.

The IRS offered these examples:

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 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, then the interest on the home equity loan would not be deductible.

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 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 because the proceeds of the second loan were not used to improve the first home or secure it in any way, shape or fashion.

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 another $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 the interest paid on the mortgages is deductible. Only a percentage of the total interest paid is deductible — up to $750,000. The interest on the remaining $250,000 is not deductible.

For more information about the new tax law, visit the Tax Reform page on the IRS website.
Lew Sichelman is a nationally syndicated housing and real estate columnist. He has covered the real estate beat for more than 50 years.

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