Tax Law Changes and Your Home Equity Loan
The IRS advises taxpayers that in many cases they can still deduct interest paid on home equity loans.
The Tax Cuts and Jobs Act of 2017, which was enacted in December, brought many changes for taxpayers, but also a lot of questions. Many homeowners were worried that they would no longer be able to deduct interest from home equity loans and lines of credit. That's not exactly the case, however.
The IRS recently announced that it is advising taxpayers that in many cases, they can continue to deduct interest paid on their home equity loans. The announcement was in response to the many questions it received from both taxpayers and tax professionals on the matter.
According to the IRS1, despite newly-enacted restrictions on home mortgages, under certain circumstances taxpayers may still deduct interest on a home equity loan, home equity credit line (HECL) or second mortgage, regardless of how the loan is labeled.
"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," the IRS said in a press release. "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 to exceed the cost of the home and meet other requirements."2
The IRS also noted that there is a new dollar limit on total qualified residence loan balances for the mortgage interest deduction.
"For anyone considering taking out a mortgage, the new law imposes a lower dollar limit on mortgages qualifying for the home mortgage interest deduction," they added. "Beginning in 2018, taxpayers may only deduct interest on $750,000 of qualified residence loans. The limit is $375,000 for a married taxpayer filing a separate return. These are down from the prior limits of $1 million, or $500,000 for a married taxpayer filing a separate return. The limits apply to the combined amount of loans used to buy, build or substantially improve the taxpayer’s main home and second home."3
The IRS provided three specific examples.4 In the first example, a taxpayer takes out a $500,000 mortgage to purchase a home with a fair market value of $800,000, then takes out a $250,000 home equity loan to put an addition to the house. In this case, both loans are secured by the main home, and the total does not exceed the cost of the home. As the total does not exceed $750,000, all of the interest paid on the loans is deductible. If the taxpayer used the home equity loan proceeds for personal expenses, on the other hand, then the interest on the home equity loan would not be deductible.
In the second example, a taxpayer takes out a $500,000 mortgage to purchase a main home before taking out a $250,000 loan to purchase a vacation home. Because the total amount of both mortgages does not exceed $750,000, all of the interest paid on both mortgages is deductible. If the taxpayer took out a $250,000 home equity loan on the main home to purchase the vacation home, however, then the interest on the home equity loan would not be deductible.
Finally, in the third example, the taxpayer takes out a $500,000 mortgage to purchase a main home, and then takes out a $500,000 loan to purchase a vacation home. Because the total amount of both mortgages exceeds $750,000, not all of the interest paid on the mortgages is deductible. However, a percentage of the total interest paid still is deductible.
These examples should give taxpayers an idea of where they stand when it comes to what they can deduct from home equity loans and credit lines.
You can learn more about the new tax law at the IRS Tax Reform page.5 Consult your tax advisor to see how these changes might affect your individual situation.
For information about applying for a Home Equity Credit Line from Nevada State Bank, contact your banker or visit https://www.nsbank.com/personal/borrow/home-equity-credit-line/ .
1. To read the entire press release, visit https://www.irs.gov/newsroom/interest-on-home-equity-loans-often-still-deductible-under-new-law
The information provided is presented for general informational purposes only and does not constitute tax, legal or business advice. Any views expressed in this article may not necessarily be those of ZB, N.A. or Nevada State Bank, a division of ZB, N.A. Member FDIC