Understanding The New Tax Code: Home Interest Deduction

2018 Home Mortgage Interest Deduction

President Donald Trump signed into law the Tax Cuts and Jobs Act (TCJA) on December 22, 2017.  With its passage many important changes and revisions were made.  Once such item that has undergone some important changes is the,”home mortgage interest deduction”.   The IRS has long incentivized home ownership by offering taxpayers a tax deduction for mortgage interest.  This long-standing tax perk has fueled one of the cornerstones of the “American Dream”, home ownership!

Under the Tax Reform Act of 1986, home mortgage interest was allowed only up to $1,000,000 of debt principal that was used to acquire, build, or substantially improve a principal residence or a second home; and the debt was secured by that residence respectively.  However, under the TCJA, the limits on itemized mortgage interest deduction have been reduced to $750,000.  Notably, existing home owners are grandfathered in under the older $1,000,000 limit.  Furthermore, there is one important tidbit to consider, and that is the ever confusing IRS terminology, in this particular case – “acquisition indebtedness”.   Taxpayers are responsible for determining how much of their mortgage interest is or isn’t deductible based on this IRS jargon if you will, of acquisition indebtedness.  And of course, to add anxiety and confusion to the taxpayer the IRS expects the taxpayer to keep extensive records on how the mortgage proceeds were actually used, irregardless of how the loan is structured or what the lender calls it.

Further complicating the matter, the passing of the TCJA has completely eliminated the ability to deduct interest on home equity indebtedness, hence taxpayers need to inform themselves as to what exactly the IRS determines are these types of loans by their standard.  This is effective for 2018 and beyond there are no grandfathering provisions for existing home equity debt.

Don’t be to eager to deduct the mortgage interest (if any) on your second home, especially if you rent out the second home.  To qualify for this deduction there are a variety of rules and many times it is best to consult a tax professional like TaxPM who can determine how much(if any) of the mortgage interest can be deducted for a second home, and if it in fact falls into the “home mortgage interest deduction” or otherwise needs to be treated differently per the tax code.  Also be aware that the rules and difficulty to ascertain the deduction change substantially if you rent the second home for more than 14 days.

In closing, one would hope that it would be as simple as receiving a mortgage interest statement and reporting that number directly on the tax return – well it’s not that simple. Although there are many potential tax breaks with owning a home, like, home mortgage interest deduction, taxpayers need to pay close attention to the rules and changes that were adopted by the new tax code with the passing of the Tax Cuts and Jobs Act (TCJA).