Mortgage interest deduction: Everything you need to know

Find out whether it's the right option for you – and how to qualify

Mortgage interest deduction: Everything you need to know

Purchasing a property is one of the costliest decisions you will make—which means, financially, you will likely need all the help you can get. This is where the mortgage interest tax deduction comes in. This guide will help you understand what it is, who is eligible, and what is not deductible.

What is the mortgage interest deduction?

A tax incentive for homeowners, the mortgage interest deduction lets you count interest that you pay on a loan for buying, building, or upgrading your primary residence against your taxable income, thereby lowering the amount of taxes that you will owe. It can also be used for various expenses such as mortgage insurance points and premiums. And as long as it is within a certain limit, the mortgage interest deduction can also be taken on loans for your second home.

The mortgage interest deduction will apply solely to the interest on your mortgage and not the principal. In order to claim it, you will be required to itemize your deductions. While the mortgage interest deduction has evolved over time, it has been in practice for over 100 years.

Mortgage interest tax deduction limit

The mortgage interest tax deduction limit changed in 2017 with the signing of the Tax Cuts and Jobs Act, or TCJA, which lowered the mortgage deduction limit and placed a limit on what you could educt from your home equity debt.

The mortgage interest tax deduction limit was $1 million prior to the signing of the TCJA but is now limited to $750,000. The limit means that now married couples that file jointly, and single filers, can deduct the interest on a mortgage of $750,000 for head of household, single, or joint filers. On the other hand, married taxpayers that file separately can deduct upwards of $375,000 per person.

Exceptions to the mortgage interest tax deduction limit include: mortgages taken out prior to October 13, 1987, which would be considered grandfathered debt, and therefore not limited, meaning that the interest you pay is completely deductible; homes bought between October 13, 1987 and December 16, 2017, which would still be eligible for the $1 million limit, or $500,000 each if you are married but filing separately; and homes that are sold prior to April 1, 2018, which would be eligible for the $1 million limit, but only if the property was bought prior to that date and if there was a binding contract entered prior to December 15, 2017, that closed prior to January 01, 2018.

What qualifies as deductible mortgage interest?

Different kinds of home loans qualify as a deductible mortgage interest, including loans to improve or build your house, or to purchase. Second mortgages, home equity loans, or lines of credit could also qualify for mortgage interest tax deduction, even though typical loans are for a mortgage. After you refinance your property, you could also use the mortgage interest deduction, but you will have to ensure the loan meets the qualifications—improve, build, or buy—previously listed and that the property is used to secure the loan.

Other fees and costs that may be added to the mortgage interest deduction include: any interest on your home; interest on a second home you do not rent out; late payment fees; most mortgage insurance premiums; points; prepayment penalties; and home equity loans and home equity lines of credit used to improve your home.

What’s not deductible?

When you buy a property and become a homeowner, mortgage interest is not the sole expense that you will incur. There are a slew of other expenses that most people think are tax deductible but are not. Some of the expenses that are most commonly mistaken as being tax deductible include: homeowners insurance; moving expenses, unless you are active-duty military; other closing costs, such as title insurance; down payments, deposits, or earnest money that you have forfeited; any payments made when living on the property prior to the purchase being finalized (which are considered rent); and interest accrued on a reverse mortgage.

Why is some mortgage interest not tax deductible?

Some mortgage interest is not tax deductible because it usually depends on whether your loan is secured by the value of the property that is being mortgaged and used as collateral. If, like a personal loan, for example, the loan is unsecured, the interest usually can not be deducted. And if you want to have the HELOC, or the interest on a home equity loan, deducted but have used it for other ways than improving or buying the property (for example, paying off your credit card debt), you will not be able to do so.