published December 2007
Mortgage Interest is ALWAYS deductible…isn’t it?
Well, no Virginia, it isn’t.
The IRS has indicated they’ve been slack in enforcing limits on the deduction of mortgage interest in the past, and now the party is over. They’re turning on the lights, turning off the music, and closing the bar.
If you’ve refinanced over the years as the underlying value of your home has escalated, you may be surprised. If you’ve pulled money out for upgrades to your home, that’s OK. But if you’ve “blown the money” on things like food and clothing, or college tuition, the interest deduction is limited to the first $100,000 of principal over and above your original purchase loan amount, as reduced by payments made.
A colleague facetiously suggested buying the house next door (presuming it is of equivalent value AND you can sell your original house) because it would ‘reset the counter’ on original purchase price. And if you buy and sell sometimes you can carry the Proposition 13 property tax value to the new house.
As I’ve hinted at above, deductibility depends on what you’ve done with the money. If you’ve spent it on frivol, as defined by the IRS, your deduction is limited. You can still borrow the money, you just can’t deduct the interest off your taxes. If you borrowed money on your home and put it in your business, we’ll use “tracing rules” to trace the deduction to your Schedule C. But it won’t go on your Schedule A-Itemized Deductions.
Upgrades to your home, like a new roof, remodeled bathroom, etc. count towards ‘original purchase price’ and will continue to be deductible as such on Schedule A. This would be another example of ‘resetting the counter’ for deductions.