profitable

There are several kinds of loans on which taxpayers may pay interest.
Among them are personal loans, business loans, loans to purchase
investments, and home mortgage loans.
Interest paid on personal loans, such as car loans, credit card finance
charges, and installment plans, is not deductible at all. Interest on
business loans is deductible from business income on the appropriate
schedule. You will learn how to deduct business-related interest later
in this course. Qualified home mortgage interest and investment loan
interest are deductible on Schedule A. Both are described below. For
either of these types of interest to be deductible, the taxpayer must be
legally liable for repayment of the loan.
Qualified Home Mortgage Interest
Most interest paid on home mortgages is fully deductible, but there
are exceptions. It is important to distinguish qualified home mortgage
interest from personal interest because the former is usually
deductible while the latter is not deductible.
Home mortgage interest (interest on debt secured by a principal residence
or second residence) must be categorized as interest on acquisition
debt or interest on home equity debt. Acquisition debt is debt
incurred to buy, build, or improve the home. Home equity debt is debt
incurred for any purpose other than buying, building, or improving
the home.
Interest on acquisition debt is fully deductible as long as the debt
does not exceed $1 million ($500,000 MFS) at any time during the tax
year. Interest on home equity debt is fully deductible, as long as the
debt does not exceed $100,000 ($50,000 MFS) at any time during the
tax year, or the difference between the fair market value of the home
and the remaining acquisition debt, whichever is less.
-Example: In 2003, Mary Mahoney purchased her principal residence
for $500,000. In 2007, when she owed $400,000 on the original
mortgage, she borrowed $60,000 secured by the home and used the
proceeds to build a sunroom and install an indoor pool. By 2008, the
home was worth $700,000, so Mary borrowed $130,000 secured by
the home and bought a sailboat. On her 2008 return, Mary may
deduct, as qualified home mortgage interest, the interest she pays on:
 The $400,000 left on the original mortgage (acquisition debt)
 The $60,000 sunroom/pool loan (acquisition debt)
 $100,000 of the sailboat debt (home equity debt)
The remaining $30,000 of the sailboat debt generates personal nondeductible
interest.-
-Example: Jack Michaels purchased his home for $80,000. His debt
remaining on his original mortgage used to acquire the house is
$70,000. The 2008 fair market value of the house is $95,000. Jack
used a home equity line of credit in 2007 to borrow $15,000 to purchase
a new car. All of the interest paid on the original mortgage
(acquisition debt) and all of the interest paid in 2008 on the $15,000
car loan (home equity debt) are deductible as qualified home mortgage
interest.-
Under the mortgage interest rules, all debt incurred before October
14, 1987, and secured by a main or second residence is treated as
acquisition debt. Such debt is not subject to the $1 million cap, but
does reduce the $1 million and $100,000 limits if any additional debt
is incurred on the residence after October 13, 1987.
-Example: Mabel Warren’s principal residence is worth $3.2 million.
In 2008, she had $2 million outstanding debt on the residence, all
incurred prior to October 14, 1987. For 2008, she may deduct in full
the interest she pays on the $2 million debt. If she now borrows any
more money, even for a home improvement, the interest is nondeductible
personal interest because she has already surpassed the $1
million acquisition debt limit and the $100,000 home equity debt
limit.-
Recall that the interest paid on home equity debt is deductible up to
the lesser of the following:
 $100,000
 The difference between the fair market value (FMV) of the home
and the remaining acquisition debt
Consider the following example.
-Example: Joe Matthews purchased his home in 2003 for $155,000,
incurring $147,250 acquisition debt (his original mortgage). In
January 2008, he took out a home equity loan to consolidate his
other debts at a lower interest rate. The lender, the Cash Market,
allowed him to borrow up to 110% of the fair market value of his
home. His remaining mortgage principal at the time was $138,600,
and the fair market value of his home was $165,000. [$165,000 
110% = $181,500 limit] Joe borrowed $42,900, the maximum amount
allowed. [$181,500 limit - $138,600 existing mortgage = $42,900]
In 2008 the interest Joe paid on his home equity loan is not fully
deductible. Why? Because the home equity debt limit has been
exceeded. The difference between the FMV of the home and the
remaining acquisition debt is $26,400 [$165,000 - $138,600 =
$26,400], which is less than $100,000. Joe borrowed $42,900; therefore,
the interest on $16,500 [$42,900 - $26,400 = $16,500] of his
home equity debt is not deductible.-
The computation of such mortgage interest limitations can get
rather involved, requiring multiple worksheets.We do not ask you to
complete the worksheets, but it is important to be aware of the
deduction limitations, because these types of home equity loans are
rather popular. If you encounter a similar situation, you may wish to
consult IRS Publication 936, Home Mortgage Interest Deduction.

Oct 14 2009

Kim Isaac  Greenblatt

Qualified Home Mortgage Interest

Tags: Business

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