Home Equity Loan Tax Deductions

Interest - is an amount you pay for the use of borrowed money.

Several lenders are currenty offering amazing deals for 125% home equity loans. As highly advertized as these loans are they don't highly advertize that the interest payments on these loans are not neccessarily fully tax deductable.

To understand why these interest payments don't qualify as tax deductable lets look at what is considered a tax deductable interest payment. The IRS website states that to be considered for full tax deductable interest your mortgage must fall into one of these three catagories:

  • Mortgages you took out on or before October 13, 1987 (called grandfathered debt).

  • Mortgages you took out after October 13, 1987, to buy, build, or improve your home (called home acquisition debt), but only if these mortgages plus any grandfathered debt totaled $1 million or less ($500,000 or less if married filing separately).

  • Mortgages you took out after October 13, 1987, other than to buy, build, or improve your home (called home equity debt), but only if these mortgages totaled $100,000 or less ($50,000 or less if married filing separately) and totaled no more than the fair market value of your home reduced by (1) and (2).

    As described by the IRS to be considered as home equity debt the amount of the loan must be equal or less then the Fair Market Value of your home minus any outstanding debt from your first or second mortgage up to a loan amount of $100,000.

    For example, your home's fair market value is $150,000 your outstanding debt or mortgage is $115,000. This means the equity that you have built from your home is $35,000.

    Now your looking to cash in and a lender offers you a 125% home equity loan, 125% x $150,000 = $187,500 subtract your outstanding debt of $115,000 and you have qualified for a $62,500 dollar loan. So finally lets divide this loan into two parts.

    First $35,000 is your secured home equity debt and $27,500 is your unsecured home equity debt. The problem lies that as discussed before the tax exemption for interest payments only covers the secured home equity debt amount, leaving you with the financial liability of paying off the interst on $27,500 of your loan.

    *Their is a notable exception in regards to the purpose of the home equity loan. If the loan is used for home improvement it can possibly be considered as a "home aquisition debt" and the interest payments may be deductable for a loan greater then your actual equity value.

    The best course of action is to always speak to a tax advisor regarding any type of home loan. Being aware of tax deductions and liabilities can save you a huge headache and possibly thousands of dollars!

    Richard Mccaffery is owner of Home Equity Loan Lenders, a free content website meant to assist consumers in finding home equity loan information.

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