When Can Mortgage Interest Be Deducted?

Tax deductions are used to reduce the amount of your income that is taxable, which in turn lowers the amount of tax you owe. How much lower your taxes will be depends on your tax bracket. Homeowners generally are able to enjoy the benefits of itemized deductions because most mortgage interest is deductible. Understanding the basics of mortgage interest deductions can help substantially lower your tax bill each year.

The Facts

Mortgage interest is paid on a loan secured by your home. Interest can be deducted both for your main home and your second home. Types of loans can include first or second mortgages (called home-acquisition debt) or home-equity loans or lines of credit (home-equity debt). You must file IRS Form 1040 and itemize deductions on Schedule A in order to deduct mortgage interest. In addition, points paid on a mortgage as well as real estate taxes are generally deductible.

Limitations on Deductions

Not all mortgage interest is deductible. As of 2009, you can only deduct interest on home-acquisition debt of up to $1 million for your main and second homes combined ($500,000 if married filing separately). The maximum home equity debt for which you can deduct interest is $100,000 ($50,000 if married filing separately). Interest on amounts above the limits is not deductible. There are also limitations on loans you hold with one or more co-borrowers, as well as loans used for construction.

Benefits

Mortgage interest and other deductions lower your taxable income. This affects how much tax you will ultimately pay. For example, if you are in the 25 percent tax bracket, for every $1,000 in deductions, your tax bill will be reduced by $250. For this reason, many first-time homeowners will see substantially lower taxes or a large refund. In addition, when selling a home, a large portion of the profit, or capital gains, will be exempt from taxes (in 2009, the amount is $250,000, or $500,000 for married couples filing jointly).

Considerations

Your lender will provide you with a Mortgage Interest Statement (Form 1098), which will show most of the information related to your mortgage, such as interest paid and taxes. However, some information may not always appear on your Form 1098 -- certain points paid, for example. You can only deduct interest on a mortgage loan for which you are legally liable. If you make payments on a mortgage held by someone else, you cannot deduct the interest.

Warning

Like many tax laws, rules regarding mortgage interest deductions can be complicated and confusing. While many deductions can be figured out easily from your Form 1098, you may wish to consult a qualified tax adviser to make sure you're claiming all the deductions you're entitled to, as well as not claiming any you shouldn't. Especially if you own more than two homes, use one or more of your homes as rental property or own a home with other borrowers, you should consult a professional for advice.