IRS Favors Taxpayer on Mortgage Interest Deduction

Posted by Alex Narodny on Tuesday, February 15th, 2011 at 3:19pm.

 The IRS recently ruled in the taxpayer’s favor that it will not follow a tax court ruling that limited the amount of deductible home mortgage interest to $1 million. In short, the IRS ruling allows a taxpayer to deduct mortgage interest on up to $1.1 million of debt that is used to acquire, construct, or substantially improve a primary or second home, provided there is at least $100,000 of home equity securing the loan. The IRS rejected the tax court's holding that a taxpayer must demonstrate that debt treated as home equity indebtedness was not used for acquisition purposes because the definition of "home equity indebtedness" in the tax code §163(h)(3)(C) contains no such restriction. For many years, the interpretation of the deductibility of mortgage interest varied among tax professionals. Some interpreted the IRC more liberally than others and would deduct interest on up to $1.1 million in mortgage regardless of whether or not it was one loan of $1.1 million or a first mortgage of $1 million and a second mortgage of $100,000 (or more). Others adhered to a stricter interpretation when the debt exceeded $1,000,000. In such cases, practitioners limited the tax deduction to the interest payments associated with the first $1 million of indebtedness, unless a second mortgage against the property was in place. The IRS Publication #936 Home Mortgage Interest (pg. 9) confirms that home equity indebtedness can include debt used to acquire a home if it exceeds the $1 million acquisition indebtedness limit. Although the precedential value of a revenue ruling generally does not override an opinion of the Tax Court (which has nationwide jurisdiction), when the IRS position is more favorable to the taxpayer than the court's, the issue is unlikely to be raised at the audit level. Consequently, the IRS has signaled to taxpayers that they will not be challenged on audit if they deduct interest on up to $1.1 million of indebtedness that is used to acquire, construct, or improve their primary residence and/or one additional residence if there is at least $100,000 of equity in the home (or homes) that secure the mortgage. 

This is welcome news for homeowners, especially those in high cost areas where it’s not uncommon for home mortgage loans to be for more than $1 million.

                                                                      Article courtesy of Terra Mortgage Banking

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