In general, personal interest expenses are not deductible from taxable income. For example, you are delinquent on monthly credit card payments for grocery purchases, so interests were charged on the late payments. The related interest amount is not allowed to offset your taxable income. However, the Internal Revenue Code § 163 made certain exceptions. Among the exceptions are interests incurred from the following residence related indebtedness. 

i)  "Acquisition indebtedness" 

An individual takes out a mortgage to acquires a residence. Interest incurring on the mortgage amounted up to $1,000,000 ($500,000 if married filing separately) can be deducted from the individual's taxable income.

ii) Home equity indebtedness

An individual takes out a loan secured by the residence. The interest incurring on the loan amounted up to $100,000 ($50,000 if married filing separately) can be deducted from taxable income. However, the $100,000 (or $50,000) limitation is reduced to the amount fair market value of the residence's equity which is fair market value of the residence minus the acquisition indebtedness, if the residence's equity value is lesser than $100,000 (or $50,000)

That is, home equity indebtedness cannot exceed its equity value to qualify for interest deduction. 

The following is a part of IRC 163. 


26 U.S. Code § 163 - Interest

(3)Qualified residence interest

For purposes of this subsection—

(A)In generalThe term “qualified residence interest” means any interest which is paid or accrued during the taxable year on—
(i)
acquisition indebtedness with respect to any qualified residence of the taxpayer, or
(ii)
home equity indebtedness with respect to any qualified residence of the taxpayer.
For purposes of the preceding sentence, the determination of whether any property is a qualified residence of the taxpayer shall be made as of the time the interest is accrued.
(B)Acquisition indebtedness
(i)In generalThe term “acquisition indebtedness” means any indebtedness which—
(I)
is incurred in acquiring, constructing, or substantially improving any qualified residence of the taxpayer, and
(II)
is secured by such residence.
 Such term also includes any indebtedness secured by such residence resulting from the refinancing of indebtedness meeting the requirements of the preceding sentence (or this sentence); but only to the extent the amount of the indebtedness resulting from such refinancing does not exceed the amount of the refinanced indebtedness.
(ii)$1,000,000 limitation

The aggregate amount treated as acquisition indebtedness for any period shall not exceed $1,000,000 ($500,000 in the case of a married individual filing a separate return).

(C)Home equity indebtedness
(i)In generalThe term “home equity indebtedness” means any indebtedness (other than acquisition indebtedness) secured by a qualified residence to the extent the aggregate amount of such indebtedness does not exceed—
(I)
the fair market value of such qualified residence, reduced by
(II)
the amount of acquisition indebtedness with respect to such residence.
(ii)Limitation

The aggregate amount treated as home equity indebtedness for any period shall not exceed $100,000 ($50,000 in the case of a separate return by a married individual).

+ Recent posts