Mortgage Interest Deduction: Who Qualifies and How to Claim It

Traditionally one of the most popular deductions for taxpayers, mortgage interest has lost luster in recent years.

Low interest rates starting during the 1990s and higher standard deductions introduced by the Tax Cuts and Jobs Act of 2017 have made it more difficult for taxpayers to use the deduction.

But for taxpayers who can still itemize, mortgage interest remains a cornerstone of Schedule A. Here’s a look at the deduction.

Learn More: Here’s our 2019-2020 Tax Filing Guide!

Mortgage Interest Deduction Overview

What Is the Mortgage Interest Deduction?

The mortgage interest deduction is an income tax deduction that can be taken on home acquisition debt. Interest associated with a home mortgage is deducted on Schedule A.

In order to claim the deduction you must have an ownership interest in the home. If you are listed on the deed and make mortgage payments during the year, you are eligible to deduct the interest.

The deduction includes interest paid on first and second mortgages, refinanced mortgages, and most home equity loans taken on a taxpayer’s primary and secondary homes. You can deduct an unlimited number of mortgages provided the total outstanding principal on the home does not exceed certain thresholds (discussed below).

To qualify as a home, the property must provide basic living accommodations such as sleeping, cooking, and toilet facilities. This generally includes houses, condominiums, mobile homes, cooperatives and boats.

Why Did Congress Enact the Mortgage Interest Deduction?

The modern home interest deduction dates to 1913 when Congress adopted its first official income tax code. The mortgage interest deduction gained widespread popularity after World War II when the baby and homebuilding booms took flight and builders and real estate agents began using it as a selling point.

Does the Mortgage Increase Deduction Really Increase Homeownership?

It’s difficult to say if people still consider home ownership a large tax break. But if they are, they should think twice. It might have worked for many Americans during the high-mortgage, booming 1980s, and prior to 2018. But times have changed.

Lower interest rates beginning in the mid-1990s, coupled with higher standard deduction amounts introduced in 2018 by the Tax Cuts and Jobs Act, have made it difficult for most homeowners to utilize the deduction. We’re not sure if real estate agents are still using the deduction as a selling point to entice home buyers. But if so, they should stop and instead focus on the long-term socioeconomic and financial benefits of homeownership.

Claiming the Mortgage Interest Deduction

Here’s how to claim the mortgage interest deduction.

Mortgage interest is claimed on Schedule A, Line 8. Your mortgage lender is required to provide a 1098 mortgage interest statement if you paid more than $600 in interest during the year.

• Report interest from Form 1098, Box 1 on Line 8a. Be sure to include interest from all of your 1098s.
• Include points reported in Box 6 of Form 1098 on Line 8a.
• Mortgage insurance premiums from Form 1098, Box 5 are reported on Line 8d.
• Pay attention to Box 3 because depending on when your loan originated this could limit how much mortgage you can deduct.
• Deduct on Line 8b home mortgage interest that wasn’t reported on Form 1098. If you paid mortgage interest to the person from whom you bought your home, enter that person’s name, address, and taxpayer identification number.

What kind of loans can be deducted?

If your mortgage fits one or more of the following categories, you generally can deduct all interest paid during the year, subject to limitations:

• Any mortgage or refinanced mortgage taken out to buy, build or improve your main home and/or second home on or before October 13, 1987.

• Mortgages acquired after October 13, 1987 that totaled $1 million or less for mortgages taken out prior to December 16, 2017 ($500,000 if filing separately from your spouse) or totaled $750,000 ($375,000 MFS) or less taken after December 15, 2017.
• Home equity debt acquired after October 13, 1987 on your main home and/or second home that totaled $100,000 or less throughout the year ($50,000 MFS).

NOTE: The dollar limits for the second and third categories apply to the combined mortgages on your main home and second home.

How to Calculate Your Average Mortgage Balance

The average balance of your mortgage can be used to determine your limit when refinancing a loan. There are several methods to accomplish this. You can use the highest mortgage balance during the year, but you may benefit most by using the average balances.

To figure your average balance, add the starting balance to the ending balance and divide by 2. For example, say your starting balance was $760,000 and your ending balance was $720,000. Your average is $740,000.

You can use this method if all the following apply.

• You didn’t borrow any new amounts on the mortgage during the year.
• You didn’t prepay more than one month’s principal during the year.
• You had to make level payments at fixed equal intervals on at least a semi-annual basis. You treat your payments as level even if they were adjusted from time to time because of changes in the interest rate.

Home Equity Line of Credit (HELOCS)

What Is a HELOC?

A home equity line of credit (HELOC) is a second mortgage that provides access to cash based on the value of your home. You can draw from a home equity line of credit and repay all or some of it monthly, somewhat like a credit card.

Because you are borrowing against your home’s equity, there are some issues to consider:

• You must have ample equity in your home. Typically, a HELOC lets you borrow up to 85% of the home’s value minus the amount you owe on loans.
• Because you are using your home as collateral, you could lose it to foreclosure if you don’t make payments.

Deducting HELOC Interest Before Tax Reform

Prior to October 13, 2017, a home equity loan could be used for just about anything a taxpayer desired — college tuition fees, a new boat, stock purchases, a trip to Vegas — and interest would still be deductible. Home equity loans of as much as $100,000 could be taken out on first and second homes with total mortgages up to $1 million.

Deducting HELOC Interest After Tax Reform

The Tax Cuts and Jobs Act requires that any HELOC taken after October 12, 2017, must be used exclusively to buy, build, or substantially improve your home in order to qualify as a deduction.

The $100,000 limitation has been removed, but now a HELOC counts toward the $750,000 mortgage limit. Keep all receipts and invoices for renovations and improvements, in case you are ever audited.

Second Homes

What Is Considered a Second Home for Tax Purposes?

A second home is any property that is not your primary home and does not produce income. Boats, trailers, condos and houses that include a kitchen, bathroom and sleeping quarters all qualify. Taxpayers are allowed to deduct all loans on their first and second homes as long as the total mortgages of both properties do not exceed the total mortgage limitation depending on when they took out the mortgages.

How to Deduct Mortgage Interest on a Second Home

Mortgage interest paid on a second residence is deductible as long as the home is being used personally. For it to be deductible the mortgage must satisfy the same requirements as a primary residence.  Mortgages taken out prior to December 16, 2017, still qualify to deduct all interest on up to $1 million loan.

Points

What Are Points?

Points, also called loan origination fees or prepaid interest, are charges paid by a borrower to obtain a home mortgage. Points usually are offered by lenders to lower a long-term interest rate. Points paid on acquisition debt for primary and secondary homes generally are fully deductible in the year they’re paid as long as they are directly associated with the mortgage.

Points used to obtain a refinanced mortgage must be deducted ratably over the term of the loan.

How to Deduct Points

Your lender should report points paid in Box 6 of Form 1098. Include points on Schedule A, Line 8a.

If you pay interest in advance for a period that goes beyond the end of the tax year, you must spread the interest over the tax years to which it applies. You can deduct only the interest that qualifies as home mortgage interest for that year.

Points aren’t always reported on the 1098, but you might be able to find them on your purchase settlement statement in the 800s section.

Mortgage Insurance Premiums

What Are Mortgage Insurance Premiums?

Mortgage insurance is provided by the Department of Veterans Affairs, the Federal Housing Administration, and private mortgage insurance companies. This “funding fee” generally is required for loans in which the home buyer cannot obtain a conventional loan by making a down payment of 20% or more.

PMI can be paid in full at the time of closing or spread over a specific period of the loan’s term.

Are Mortgage Insurance Premiums Tax Deductible?

PMI is listed in Box 5 of Form 1098 and is claimed on Schedule A, Line 8d. The deduction is limited by your adjusted gross income (AGI), with deductibility phaseouts. Your AGI is on Form 1040, Line 8b and phaseouts begin at $100,000 and top out at $109,000 ($50,000 – $54,400 if married filing separately). In other words, if you’re married and filing jointly and your AGI exceeds $109,000, you can’t take the deduction.

The TCJA eliminated this deduction for the 2018 tax year, but Congress reinstated it and has extended it through 2020. If you filed your taxes in 2018 and did not claim the deduction, you can amend your return. Have your tax professional check your return and Form 1098.

Frequently Asked Questions

• Does my deduction change if I rent out part of my home or have a home office?

  Yes and no. You cannot take mortgage interest deductions on Schedule A for portions of your home used for business. You can take the deduction for renting space in your home on Schedule A if you meet certain criteria and do not take the deduction on Schedule E. Just be aware that this deduction likely will benefit you more on Schedule E.

• I prepaid my mortgage interest. When can I deduct the prepaid amount?

  Generally, you can deduct for interest you prepaid --- such as end-of-month interest at closing, or mortgage origination points --- in the year you purchased your home. If you pay interest in advance for a period that goes beyond the end of the tax year, you must spread this interest over the tax years to which it applies.

• I paid a prepayment penalty for paying off my mortgage early. Is this deductible?

  Yes, provided the penalty isn't for a specific service performed or a cost incurred in connection with your mortgage loan.

• I bought a house with someone else and we each pay half of the mortgage payment. Can we each take a deduction for the amount we paid? Does it depend on who lives in the house?

  Yes, you can each deduct your share of mortgage interest as long as you live in the home on a regular basis during the year. Attach a statement to your return explaining that you are splitting the deduction.

• I took out a construction loan to improve my house. Is that deductible?

  Yes, you can deduct interest on your construction loan for up to 24 months and provided the home becomes your primary home when it is ready for occupancy.

• What if after December 15, 2017, I refinanced a mortgage that I originally took out before December 16, 2017? Is this interest on this refinance subject to the pre-Tax Reform rules or the post-Tax Reform rules?

  Any secured debt you use to refinance home acquisition debt is treated as home acquisition debt. However, the new debt will qualify as home acquisition debt only up to the amount of the balance of the old mortgage principal just before the refinancing. Any additional debt not used to buy, build, or substantially improve a qualified home isn't home acquisition debt.