Clarification on the Qualified Residential Interest Deduction

The Tax Cuts and Jobs Act (TCJA) enacted some changes in the rules for deducting qualified residential interest, i.e., interest on your home mortgage.  Prior to the TCJA, you could deduct interest on up to a total of $1 million of mortgage debt used to acquire your principal residence and a second home, i.e., acquisition debt. For a married taxpayer filing separately, the limit was $500,000. You could also deduct interest on home equity debt, i.e., other debt secured by the qualifying homes. Qualifying home equity debt was limited to the lesser of $100,000 ($50,000 for a married taxpayer filing separately), or the taxpayer’s equity in the home or homes (the excess of the value of the home over the acquisition debt). The funds obtained via a home equity loan did not have to be used to acquire or improve the homes. So you could use home equity debt to pay for education, travel, health care, etc.

Under TCJA, beginning in 2018, the limit on qualifying acquisition debt is reduced to $750,000 ($375,000 for a married taxpayer filing separately). However, for acquisition debt incurred before Dec. 15, 2017, the higher pre-Act limit applies. The higher pre-Act limit also applies to debt arising from refinancing pre-Dec. 15, 2017 acquisition debt, to the extent the debt resulting from the refinancing does not exceed the original debt amount. This means you can refinance up to $1 million of pre-Dec. 15, 2017 acquisition debt in the future and not be subject to the reduced limitation.

There has been some confusion on deducting home equity loan interest under the new law. The new law eliminates the deduction of interest on a home equity loan, but the IRS has recently clarified that whether or not interest on such a loan is deductible depends on the use of the funds taken down with such a loan. For example, If a home equity loan is taken out to purchase a new car, interest won’t be deductible. However, interest on a loan secured by the home that adds a new bedroom and bath or remodels the kitchen would be deductible. Keep in mind the restrictions involved in mortgage interest, including not exceeding the new $750,000 of principal limit.

Lastly, both of these changes last for eight years, through 2025. In 2026, the pre-Act rules are scheduled to come back into effect. So beginning in 2026, interest on home equity loans will be deductible again, and the limit on qualifying acquisition debt will be raised back to $1 million ($500,000 for married separate filers).

If you would like to discuss how these changes affect your particular situation, and any planning moves you should consider in light of them, please contact a member of our Tax department.


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