How to Deduct Home Equity Loan Interest

The interest you pay on a home equity loan may be deductible no matter what you use the money for. The deduction can save you money on your taxes.

Difficulty: Moderately Easy

Instructions

Things You'll Need:

• Financial Statements
• Calculators
• Financial Calculator
• Paper And Pencils
• Tax Preparation Software
• Calculators

1. Determine if your itemized deductions are greater than your standard deduction. Mortgage interest, home equity loan interest, state taxes, property taxes and charitable contributions are the main itemizable deductions. The standard deduction is $7,200 if married filing jointly, $6,350 if head of household, $4,300 if single and $3,600 if married filing separately. If your standard deduction is greater, use it.

2. Obtain a Schedule A form if you'll itemize deductions.

3. Write in the third section of Schedule A the name of the company to which you paid home equity interest and the amount of interest you paid during the tax year.

4. Write in the third section of Schedule A the name of the company to which you paid points or an origination fee to obtain the home equity loan. Only points you paid on money used for home improvement of your main home can be deducted in full for the tax year you paid it. You can deduct other points, but you must amortize.

5. Complete the rest of Schedule A.

Tips & Warnings

• You can deduct home equity loan interest on your first or second homes only - not on any other home, even if you use the money for matters unrelated to the home.
• Amortizing points, which means spreading the deduction out over the life of the loan, requires good record keeping. When you pay off the loan or sell the home, you can deduct all the points you haven't taken off before.
• The yearly limit on the deduction for home equity loan interest is the interest on loans totaling $100,000 ($50,000 if married filing separately). If you used all or part of the loan for your business, it might be better to elect to treat the debt as unsecured by your residence. In that way, you can write off the interest as a business expense. But once you make the election, you can't reverse it without Internal Revenue Service approval.
• You cannot deduct interest on any amount of the home equity loan that is more than the difference between the market value of the home and your mortgage debt.
• These rules apply to home equity loans taken out after October 13, 1987. Consult with an experienced tax preparer if your home equity loan preceded that date, you have questions or your situation is out of the ordinary.
• A home equity loan may provide a tax benefit, yet may not be worth the risk of losing your home should you need to default on the loan. Remember that a home equity loan is secured by your home.

on 11/22/2005 Cash Out Plans - Refi vs Equity
When you decide whether to do the cash-out refinancing option, keep in mind that:
1. You have to pay closing costs when you refinance your loan;
2. You don't have to pay closing costs for a home equity loan.
3. Closing costs can amount to hundreds, even thousands of dollars.

If your current mortgage is at a lower interest rate than you could get now by refinancing, it's probably better to get a home equity loan.

Private Mortgage Insurance:
You'll have to pay private mortgage insurance if you end up borrowing more than 80 percent of your home's value. It might be cheaper to take out a home equity loan.