ISSUE
Under the new tax law, interest on a home equity loan for individuals may be deductible – contrary to some news reports.
SITUATION
Saltwater Christian College (SCC) is a private college exempt under Internal Revenue Code section 501(c)(3) and section 170(b)(1)(A)(ii). They are required to file Form 990 annually.
SCC has hired a new Dean of Students. As he moves to town, the SCC accounting team has informed him that his moving expenses will be taxable to him in 2018. The new dean has bought a house and plans to add on to it in 2018. He asks the SCC accountants about the new rules for deducting home mortgage interest. He is especially interested in whether or not he might get a deduction for the interest on a home equity loan they are taking out to pay for the addition.
The SCC accounting team asks us. We tell them that the limits on home mortgage interest (a “qualified residence loan”) under the “Tax Cuts and Jobs Act” rules top out at loan amounts of $750,000. In addition, the new law 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.
Here’s an example from a recent IRS notice:
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.
“RULES”
From IRS News Release – IR-2018-32, Feb. 21, 2018:
WASHINGTON — The Internal Revenue Service today advised taxpayers that in many cases they can continue to deduct interest paid on home equity loans.
Responding to many questions received from taxpayers and tax professionals, the IRS said 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.
Under the new law, for example, interest on a home equity loan used to build an addition to an existing home is typically deductible, while interest on the same loan used to pay personal living expenses, such as credit card debts, is not. 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.
BOTTOM LINE
- For anyone considering taking out a mortgage, the new law imposes a lower dollar limit on mortgages qualifying for the home mortgage interest deduction.
- For 2018 and forward, the limitation on “qualified residence loans” is $750,000 (down from $1 million in prior years).
- If a home equity loan is taken out to buy, build, or substantially improve the taxpayers’ residence.
- The limitations on home mortgage interest (like many provisions of the new tax law) are set to “sunset” after December 31, 2025.
Specific questions? Email Dave Moja
The information provided herein presents general information and should not be relied on as accounting, tax, or legal advice when analyzing and resolving a specific tax issue. If you have specific questions regarding a particular fact situation, please consult with competent accounting, tax, and/or legal counsel about the facts and laws that apply.
© 2018 Christian College Resources, Inc.