Tax Prep 101: How to Deduct Interest from a Mortgage or HELOC

It's the middle of tax season, and households across the nation are starting to get all their financials in order to meet the deadline. One provision of the tax code many taxpayers favor is the mortgage interest deduction, which allows borrowers to claim some of the interest they pay on their mortgage. Those with a home equity line of credit (HELOC) have a similar opportunity to write off interest paid.

Understanding how to best leverage tax law for your home finances means becoming familiar with the Tax Cuts and Jobs Act of 2017 (TCJA). The sweeping reforms, which went into effect for taxes paid in 2018, brought many significant changes to the mortgage and HELOC interest deductions that consumers must become familiar with. Here are answers to some essential questions.

Who's affected by the change?

One important thing to clear up is whether you will be impacted by the reforms. The adjustments made to those deductions by the TCJA only apply if you itemize your taxes. Itemization is the second route of tax prep to claiming the standard deduction. The latter reduces taxes by a fixed amount that is essentially a blanket deduction; itemization entails making deductions line by line on various items, and is usually only used if it makes sense, like when a taxpayer can claim more than the standard deduction. The TCJA doubled the standard deduction, which means fewer could be incentivized to itemize. 

Review your taxes and determine which is the ideal preparation style. Not all Americans itemize taxes, but of those who do, many are homeowners.

How much can I claim in mortgage interest?

Before the TCJA, a taxpayer could claim up to $1 million in interest paid on qualified debt incurred to purchase a home. For mortgages taken out during the time which the TCJA is in effect — 2018 to 2026 — that limit is $750,000 ; a reduction taxpayers must take notice of. The cap was lowered for married filing separate, as well: From $500,000 to $375,000. First-time homebuyers are likely to be affected by this change, but so too are existing homeowners. The TCJA also reduced the cap for interest paid on a mortgage for a secondary or vacation home — investment properties do not qualify.

Mortgages taken out before Dec. 15, 2017, have been grandfathered in at the previous $1 million limit, which may be good news for some. Additionally, if borrowers of those mortgages want to refinance between 2018 and 2026, they can still benefit from the $1 million limit.

Can I deduct interest on a HELOC?

HELOCs are popular among homeowners because they're a way to convert home equity to cash, which is often reinvested in the home or used toward personal expenses like credit card debt, college savings or weddings. However, under the TCJA, interest paid on such home-secured credit lines can only be deducted if HELOC proceeds are in qualifying situations — i.e. reinvested in the home through a renovation or upgrade. 

According to the IRS, "interest on a home equity loan used to build an addition to an existing home is typically deductible," but not on interest used for living expenses or debt.

Please consult with your tax advisor about the tax deductibility of interest payments on your HELOC or mortgage.