| Publication 17, Your Federal Income Tax |
2006 Tax Year |
This is archived information that pertains only to the 2006 Tax Year. If you
are looking for information for the current tax year, go to the Tax Prep Help Area.
Personal interest.
Personal interest is not deductible. Examples of personal interest include interest on a loan to purchase
an automobile for personal use and credit card and installment interest incurred for personal expenses.
But you may be able to deduct interest you pay on a qualified student loan. For details, see Publication 970, Tax Benefits
for Education.
Limit on itemized deductions. If your adjusted gross income is more than $150,500 ($75,250 if you are married filing separately), the overall amount of
your itemized deductions
may be limited. See chapter 29 for more information about this limit.
This chapter discusses interest. Interest is the amount you pay for the use of borrowed money.
The following are types of interest you can deduct as itemized deductions on Schedule A (Form 1040).
This chapter explains these deductions. It also explains where to deduct other types of interest and lists some types of interest
you cannot
deduct.
Use Table 23-1 to find out where to get more information on various types of interest, including investment interest.
Useful Items - You may want to see:
Generally, home mortgage interest is any interest you pay on a loan secured by your home (main home or a second
home). The loan may be a mortgage to buy your home, a second mortgage, a line of credit, or a home equity loan.
You can deduct home mortgage interest only if you meet all the following conditions.
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You must file Form 1040 and itemize deductions on Schedule A (Form 1040).
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You must be legally liable for the loan. You cannot deduct payments you make for someone else if you are not legally liable
to make them.
Both you and the lender must intend that the loan be repaid. In addition, there must be a true debtor-creditor relationship
between you and the
lender.
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The mortgage must be a secured debt on a qualified home. (Generally, your mortgage is a secured debt if you put your home
up as collateral
to protect the interests of the lender. The term “qualified home” means your main home or second home. For details, see Publication
936.)
In most cases, you will be able to deduct all of your home mortgage interest. Whether it is all deductible depends on the
date you took out the
mortgage, the amount of the mortgage, and your use of its proceeds.
Fully deductible interest.
If all of your mortgages fit into one or more of the following three categories at all times during the year, you
can deduct all of the interest on
those mortgages. (If any one mortgage fits into more than one category, add the debt that fits in each category to your other
debt in the same
category.)
The three categories are:
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Mortgages you took out on or before October 13, 1987 (called grandfathered debt).
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Mortgages you took out after October 13, 1987, to buy, build, or improve your home (called home acquisition debt), but only
if throughout
2006 these mortgages plus any grandfathered debt totaled $1 million or less ($500,000 or less if married filing separately).
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Mortgages you took out after October 13, 1987, other than to buy, build, or improve your home (called home equity debt), but
only if
throughout 2006 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).
The dollar limits for the second and third categories apply to the combined mortgages on your main home and second
home.
See Part II of Publication 936 for more detailed definitions of grandfathered, home acquisition, and home equity debt.
You can use Figure 23-A to check whether your home mortgage interest is fully deductible.
Figure 23-A. Is My Home Mortgage Interest Fully Deductible? Summary: This flowchart is used to determine if your home mortgage interest is fully deductible.(Instructions: Include balances
of ALL mortgages secured by your main home and second home.)Start. This is the starting of the flowchart.Decision (1). Do you meet the conditions to deduct home (See footnote 1) mortgage interest?Footnote 1: You must itemize deductions on Schedule
A (Form 1040) and be legally liable for the loan. The loan must be a secured debt on a
qualified home. See Home Mortgage Interest.
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IF Yes Continue To Decision (2)
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IF No Continue To Process (a)
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Decision (2). Were your total mortgage balances $100,000 or less (see Footnote 2) ($50,000 or less if married filing separately) at all
times during the
year?Footnote 2: If all mortgages on your main or second home exceed the home's fair market value, a lower limit may apply.
See Home equity debt
limit under Home Equity Debt in Part II of Publication 936.
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IF Yes Continue To Process (b)
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IF No Continue To Decision (3)
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Decision (3). Were all of your home mortgages taken out on or before 10-13-87?
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IF Yes Continue To Process (b)
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IF No Continue To Decision (4)
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Decision (4). Were all of your home mortgages taken out after 10-13-87 used to buy, build, or improve the main home secured by that main
home mortgage or
used to buy, build, or improve the second home secured by that second home mortgage, or both?
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IF Yes Continue To Decision (7)
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IF No Continue To Decision (5)
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Decision (5). Were your home equity debt balances $100,000 or less (see Footnote 2) ($50,000 or less if married filing separately) at all
times during the
year?Footnote 2: If all mortgages on your main or second home exceed the home's fair market value, a lower limit may apply.
See Home equity debt
limit under Home Equity Debt in Part II of Publication 936.
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IF Yes Continue To Decision (6)
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IF No Continue To Process (c)
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Decision (6). Were your grandfathered debt plus home acquisition debt balances $1,000,000 or less (see Footnote 3) ($500,000 or less if
married filing
separately) at all times during the year?Footnote 3: Amounts over the $1,000,000 limit ($500,000 if married filing separately)
qualify as home equity debt if they are not more than
the total home equity debt limit. See Publication 936 for more information about grandfathered debt, home acquisition debt,
and home equity
debt.
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IF Yes Continue To Process (b)
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IF No Continue To Process (c)
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Decision (7). Were the mortgage balances $1,000,000 or less ($500,000 or less if married filing separately) at all times during the year?
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IF Yes Continue To Process (b)
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IF No Continue To Decision (5)
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Process (a). You cannot deduct the interest payments as home mortgage interest. (see Footnote 4) Footnote 4: See Table 23-1 for where to
deduct other types of interest payments.
Process (b). Your home mortgage interest is fully deductible. You do not need Publication 936.
Process (c). Go to Part II of Publication 936 to determine the limits on your deductible home mortgage interest.
End. This is the ending of the flowchart.
Limits on deduction.
You cannot fully deduct interest on a mortgage that does not fit into any of the three categories listed above. If
this applies to you, see
Part II of Publication 936 to figure the amount of interest you can deduct.
This section describes certain items that can be included as home mortgage interest and others that cannot. It also describes
certain special
situations that may affect your deduction.
Late payment charge on mortgage payment.
You can deduct as home mortgage interest a late payment charge if it was not for a specific service performed in connection
with your mortgage
loan.
Mortgage prepayment penalty.
If you pay off your home mortgage early, you may have to pay a penalty. You can deduct that penalty as home mortgage
interest provided the penalty
is not for a specific service performed or cost incurred in connection with your mortgage loan.
Sale of home.
If you sell your home, you can deduct your home mortgage interest (subject to any limits that apply) paid up to, but
not including, the date of
sale.
Example.
John and Peggy Harris sold their home on May 7. Through April 30, they made home mortgage interest payments of $1,220. The
settlement sheet for the
sale of the home showed $50 interest for the 6-day period in May up to, but not including, the date of sale. Their mortgage
interest deduction is
$1,270 ($1,220 + $50).
Prepaid interest.
If you pay interest in advance for a period that goes beyond the end of the tax year, you must spread this interest
over the tax years to which it
applies. You can deduct in each year only the interest that qualifies as home mortgage interest for that year. However, see
Points, later.
Mortgage interest credit.
You may be able to claim a mortgage interest credit if you were issued a mortgage credit certificate (MCC) by a state
or local government. Figure
the credit on Form 8396, Mortgage Interest Credit. If you take this credit, you must reduce your mortgage interest deduction
by the amount of the
credit.
For more information on the credit, see chapter 37.
Ministers' and military housing allowance.
If you are a minister or a member of the uniformed services and receive a housing allowance that is not taxable, you
can still deduct your home
mortgage interest.
Mortgage assistance payments.
If you qualify for mortgage assistance payments for lower-income families under section 235 of the National Housing
Act, part or all of the
interest on your mortgage may be paid for you. You cannot deduct the interest that is paid for you.
No other effect on taxes.
Do not include these mortgage assistance payments in your income. Also, do not use these payments to reduce other
deductions, such as real estate
taxes.
Divorced or separated individuals.
If a divorce or separation agreement requires you or your spouse or former spouse to pay home mortgage interest on
a home owned by both of you, the
payment of interest may be alimony. See the discussion of Payments for jointly-owned home in chapter 18.
Redeemable ground rents.
If you make annual or periodic rental payments on a redeemable ground rent, you can deduct them as mortgage interest.
Payments made to end the lease and to buy the lessor's entire interest in the land are not ground rents. You cannot
deduct them. For more
information, see Publication 936.
Nonredeemable ground rents.
Payments on a nonredeemable ground rent are not mortgage interest. You can deduct them as rent if they are a business
expense or if they are for
rental property.
Rental payments.
If you live in a house before final settlement on the purchase, any payments you make for that period are rent and
not interest. This is true even
if the settlement papers call them interest. You cannot deduct these payments as home mortgage interest.
Mortgage proceeds invested in tax-exempt securities.
You cannot deduct the home mortgage interest on grandfathered debt or home equity debt if you used the proceeds of
the mortgage to buy securities
or certificates that produce tax-free income. “ Grandfathered debt” and “ home equity debt” are defined earlier under Amount
Deductible.
Refunds of interest.
If you receive a refund of interest in the same tax year you paid it, you must reduce your interest expense by the
amount refunded to you. If you
receive a refund of interest you deducted in an earlier year, you generally must include the refund in income in the year
you receive it. However, you
need to include it only up to the amount of the deduction that reduced your tax in the earlier year. This is true whether
the interest overcharge was
refunded to you or was used to reduce the outstanding principal on your mortgage.
If you received a refund of interest you overpaid in an earlier year, you
generally will receive a Form 1098, Mortgage Interest Statement, showing the refund in box 3. For information about Form 1098,
see Mortgage
Interest Statement, later.
For more information on how to treat refunds of interest deducted in earlier years, see Recoveries in chapter 12.
The term “points” is used to describe certain charges paid, or treated as paid, by a borrower to obtain a
home mortgage. Points may also be called loan origination fees, maximum loan charges, loan discount, or discount points.
A borrower is treated as paying any points that a home seller pays for the borrower's mortgage. See Points paid by the seller, later.
You generally cannot deduct the full amount of points in the year paid. Because they are prepaid interest, you generally deduct
them ratably over
the life (term) of the mortgage. See Deduction Allowed Ratably.
For exceptions to the general rule, see Deduction Allowed in Year Paid.
Deduction Allowed in Year Paid
You can fully deduct points in the year paid if you meet all
the following tests. (You can use Figure 23-B as a quick guide to see whether your points are fully deductible in the year
paid.)
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Your loan is secured by your main home. (Your main home is the one you live in most of the time.)
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Paying points is an established business practice in the area where the loan was made.
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The points paid were not more than the points generally charged in that area.
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You use the cash method of accounting. This means you report income in the year you receive it and deduct expenses in the
year you pay them.
(If you want more information about this method, see Accounting Methods in chapter 1.)
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The points were not paid in place of amounts that ordinarily are stated separately on the settlement statement, such as appraisal
fees,
inspection fees, title fees, attorney fees, and property taxes.
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The funds you provided at or before closing, plus any points the seller paid, were at least as much as the points charged.
The funds you
provided do not have to have been applied to the points. They can include a down payment, an escrow deposit, earnest money,
and other funds you paid
at or before closing for any purpose. You cannot have borrowed these funds from your lender or mortgage broker.
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You use your loan to buy or build your main home.
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The points were computed as a percentage of the principal amount of the mortgage.
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The amount is clearly shown on the settlement statement (such as the Settlement Statement, Form HUD-1) as points charged for
the mortgage.
The points may be shown as paid from either your funds or the seller's.
Figure 23-B. Are My Points Fully Deductible This Year? Summary: This flowchart is used to determine if your home mortgage points are fully deductible this year.Start. This is the starting of the flowchart.Decision (1). Is the loan secured by your main home?
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IF Yes Continue To Decision (2)
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IF No Continue To Process (a)
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Decision (2). Is the payment of points an established business practice in your area?
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IF Yes Continue To Decision (3)
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IF No Continue To Process (a)
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Decision (3). Were the points paid more than the amount generally charged in your area?
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IF Yes Continue To Process (a)
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IF No Continue To Decision (4)
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Decision (4). Do you use the cash method of accounting?
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IF Yes Continue To Decision (5)
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IF No Continue To Process (a)
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Decision (5). Were the points paid in place of amounts that ordinarily are separately stated on the settlement sheet?
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IF Yes Continue To Process (a)
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IF No Continue To Decision (6)
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Decision (6). Were the funds you provided (other than those you borrowed from your lender or mortgage broker), plus any points the seller
paid, at least as
much as the points charged? (See Footnote)Footnote: The funds you provided do not have to have been applied to the points.
They can include a down payment, an escrow deposit, earnest
money, and other funds you paid at or before closing for any purpose.
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IF Yes Continue To Decision (7)
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IF No Continue To Process (a)
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Decision (7). Did you take out the loan to improve your main home?
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IF Yes Continue To Process (b)
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IF No Continue To Decision (8)
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Decision (8). Did you take out the loan to buy or build your new home?
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IF Yes Continue To Decision (9)
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IF No Continue To Process (a)
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Decision (9). Were the points computed as a percentage of the principal amount of the mortgage?
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IF Yes Continue To Decision (10)
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IF No Continue To Process (a)
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Decision (10). Is the amount paid clearly shown as points on the settlement statement?
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IF Yes Continue To Process (b)
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IF No Continue To Process (a)
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Process (a). You cannot fully deduct the points this year. See the discussion on Points.
Process (b). You can fully deduct the points this year on Schedule A (Form 1040).
End. This is the ending of the flowchart.
Note.
If you meet all of these tests, you can choose to either fully deduct the points in the year paid, or deduct them over the
life of the loan.
Home improvement loan.
You can also fully deduct in the year paid points paid on a loan to improve your main home, if tests (1) through (6)
are met.
Second home. You cannot fully deduct in the year paid points you pay on loans secured by your second home.
You can deduct these points only over the life of the loan.
Refinancing.
Generally, points you pay to refinance a mortgage are not deductible in full in the year you pay them. This is true
even if the new mortgage is
secured by your main home.
However, if you use part of the refinanced mortgage proceeds to improve your main home and you meet the first 6 tests
listed under Deduction
Allowed in Year Paid, earlier, you can fully deduct the part of the points related to the improvement in the year you paid them with your own
funds. You can deduct the rest of the points over the life of the loan.
Example 1.
In 1993, Bill Fields got a mortgage to buy a home. In 2006, Bill refinanced that mortgage with a 15-year $100,000 mortgage
loan. The mortgage is
secured by his home. To get the new loan, he had to pay three points ($3,000). Two points ($2,000) were for prepaid interest,
and one point ($1,000)
was charged for services, in place of amounts that ordinarily are stated separately on the settlement statement. Bill paid
the points out of his
private funds, rather than out of the proceeds of the new loan. The payment of points is an established practice in the area,
and the points charged
are not more than the amount generally charged there. Bill's first payment on the new loan was due July 1. He made six payments
on the loan in 2006
and is a cash basis taxpayer.
Bill used the funds from the new mortgage to repay his existing mortgage. Although the new mortgage loan was for Bill's continued
ownership of his
main home, it was not for the purchase or improvement of that home. He cannot deduct all of the points in 2006. He can deduct
two points ($2,000)
ratably over the life of the loan. He deducts $67 [($2,000 ÷ 180 months) × 6 payments] of the points in 2006. The other point
($1,000)
was a fee for services and is not deductible.
Example 2.
The facts are the same as in Example 1, except that Bill used $25,000 of the loan proceeds to improve his home and $75,000 to repay his
existing mortgage. Bill deducts 25% ($25,000 ÷ $100,000) of the points ($2,000) in 2006. His deduction is $500 ($2,000 × 25%).
Bill also deducts the ratable part of the remaining $1,500 ($2,000 - $500) that must be spread over the life of the loan.
This is $50
[($1,500 ÷ 180 months) × 6 payments] in 2006. The total amount Bill deducts in 2006 is $550 ($500 + $50).
Deduction Allowed Ratably
If you do not meet the tests listed under Deduction Allowed in Year Paid, the loan is not a home improvement loan, or you choose not to
deduct your points in full in the year paid, you can deduct the points ratably (equally) over the life of the loan if you
meet all the following
tests.
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You use the cash method of accounting. This means you report income in the year you receive it and deduct expenses in the
year you pay them.
Most individuals use this method.
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Your loan is secured by a home. (The home does not need to be your main home.)
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Your loan period is not more than 30 years.
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If your loan period is more than 10 years, the terms of your loan are the same as other loans offered in your area for the
same or longer
period.
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Either your loan amount is $250,000 or less, or the number of points is not more than:
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4, if your loan period is 15 years or less, or
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6, if your loan period is more than 15 years.
This section describes certain special situations that may affect your deduction of points.
Original issue discount.
If you do not qualify to either deduct the points in the year paid or deduct them ratably over the life of the loan,
or if you choose not to use
either of these methods, the points reduce the issue price of the loan. This reduction results in original issue discount,
which is discussed in
chapter 5 of Publication 535.
Amounts charged for services.
Amounts charged by the lender for specific services connected to the loan are not interest. Examples of these charges
are:
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Appraisal fees,
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Notary fees,
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Preparation costs for the mortgage note or deed of trust,
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Mortgage insurance premiums, and
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VA funding fees.
You cannot deduct these amounts as points either in the year paid or over the life of the mortgage. For information about
the tax treatment of
these amounts and other settlement fees and closing costs, get Publication 530, Tax Information for First-Time Homeowners.
Points paid by the seller.
The term “ points” includes loan placement fees that the seller pays to the lender to arrange financing for the buyer.
Treatment by seller.
The seller cannot deduct these fees as interest. But they are a selling expense that reduces the amount realized by
the seller. See chapter 15 for
information on the sale of your home.
Treatment by buyer.
The buyer reduces the basis of the home by the amount of the seller-paid points and treats the points as if he or she
had paid them. If all the tests under Deduction Allowed in Year Paid, earlier, are met, the buyer can deduct the points in the year paid.
If any of those tests is not met, the buyer deducts the points over the life of the loan.
For information about basis, see chapter 13.
Funds provided are less than points.
If you meet all the tests in Deduction Allowed in Year Paid, earlier, except that the funds you provided were less than the points
charged to you (test 6), you can deduct the points in the year paid, up to the amount of funds you provided. In addition,
you can deduct any points
paid by the seller.
Example 1.
When you took out a $100,000 mortgage loan to buy your home in December, you were charged one point ($1,000). You meet all
the tests for deducting
points in the year paid, except the only funds you provided were a $750 down payment. Of the $1,000 charged for points, you
can deduct $750 in the
year paid. You spread the remaining $250 over the life of the mortgage.
Example 2.
The facts are the same as in Example 1, except that the person who sold you your home also paid one point ($1,000) to help you get your
mortgage. In the year paid, you can deduct $1,750 ($750 of the amount you were charged plus the $1,000 paid by the seller).
You spread the remaining
$250 over the life of the mortgage. You must reduce the basis of your home by the $1,000 paid by the seller.
Excess points.
If you meet all the tests in Deduction Allowed in Year Paid, earlier, except that the points paid were more than are generally paid in
your area (test 3), you deduct in the year paid only the points that are generally charged. You must spread any additional
points over the life of the
mortgage.
Mortgage ending early.
If you spread your deduction for points over the life of the mortgage, you can deduct any remaining balance in the
year the mortgage ends. However,
if you refinance the mortgage with the same lender, you cannot deduct any remaining balance of spread points. Instead, deduct
the remaining balance
over the term of the new loan.
A mortgage may end early due to a prepayment, refinancing, foreclosure, or similar event.
Example.
Dan paid $3,000 in points in 1996 that he had to spread out over the 15-year life of the mortgage. He had deducted $2,000
of these points through
2005.
Dan prepaid his mortgage in full in 2006. He can deduct the remaining $1,000 of points in 2006.
Limits on deduction.
You cannot fully deduct points on a mortgage unless the mortgage fits into one of the categories listed earlier under
Fully deductible
interest. See Publication 936 for details.
Mortgage Interest Statement
If you paid $600 or more of mortgage interest (including certain points) during the year on
any one mortgage, you generally will receive a Form 1098, Mortgage Interest Statement, or a similar statement from the mortgage
holder. You will
receive the statement if you pay interest to a person (including a financial institution or a cooperative housing corporation)
in the course of that
person's trade or business. A governmental unit is a person for purposes of furnishing the statement.
The statement for each year should be sent to you by January 31 of the following year. A copy of this form will also be sent
to the IRS.
The statement will show the total interest you paid during the year. If you purchased a main home during the year, it will
also show the deductible
points paid during the year, including seller-paid points. However, it should not show any interest that was paid for you
by a government agency.
As a general rule, Form 1098 will include only points that you can fully deduct in the year paid.
However, certain points not included on Form 1098 also may be deductible, either in the year paid or over the life of the
loan. See Points,
earlier, to determine whether you can deduct points not shown on Form 1098.
Prepaid interest on Form 1098.
If you prepaid interest in 2006 that accrued in full by January 15, 2007, this prepaid interest may be included in
box 1 of Form 1098. However, you
cannot deduct the prepaid amount for January 2007 in 2006. (See Prepaid interest, earlier.) You will have to figure the interest that
accrued for 2007 and subtract it from the amount in box 1. You will include the interest for January 2007 with the other interest
you pay for 2007.
See How To Report, later.
Refunded interest.
If you received a refund of mortgage interest you overpaid in an earlier year, you generally will receive a Form 1098
showing the refund in box 3.
See Refunds of interest, earlier.
This section discusses the interest expenses you may be able to deduct as an investor.
If you borrow money to buy property you hold for investment, the interest you pay is investment interest. You
can deduct investment interest subject to the limit discussed later. However, you cannot deduct interest you incurred to produce
tax-exempt income.
Nor can you deduct interest expenses on straddles.
Investment interest does not include any qualified home mortgage interest or any interest taken
into account in computing income or loss from a passive activity.
Property held for investment includes property that produces interest, dividends, annuities, or royalties
not derived in the ordinary course of a trade or business. It also includes property that produces gain or loss (not derived
in the ordinary course of
a trade or business) from the sale or trade of property producing these types of income or held for investment (other than
an interest in a passive
activity). Investment property also includes an interest in a trade or business activity in which you did not materially participate
(other than a
passive activity).
Partners, shareholders, and beneficiaries.
To determine your investment interest, combine your share of investment interest from a partnership, S corporation,
estate, or trust with your
other investment interest.
Allocation of Interest Expense
If you borrow money for business or personal purposes as well as for investment, you must allocate the debt among those purposes.
Only the interest
expense on the part of the debt used for investment purposes is treated as investment interest. The allocation is not affected
by the use of property
that secures the debt.
Generally, your deduction for investment interest expense is limited to the amount of your net investment
income.
You can carry over the amount of investment interest that you could not deduct because of this limit to
the next tax year. The interest carried over is treated as investment interest paid or accrued in that next year.
You can carry over disallowed investment interest to the next tax year even if it is more than your taxable income in the
year the interest was
paid or accrued.
Determine the amount of your net investment income by subtracting your investment expenses (other than interest expense) from
your investment
income.
Investment income.
This generally includes your gross income from property held for investment (such as
interest, dividends, annuities, and royalties). Investment income does not include Alaska Permanent Fund dividends. It also
does not include qualified
dividends or net capital gain unless you choose to include them.
Choosing to include qualified dividends.
Investment income generally does not include qualified dividends (discussed in chapter 8). However, you can choose
to include all or part of your
qualified dividends in investment income.
You make this choice by completing Form 4952, line 4g, according to its instructions.
If you choose to include any amount of your qualified dividends in investment income, you must reduce your qualified
dividends that are eligible
for the lower capital gains tax rates by the same amount.
Choosing to include net capital gain.
Investment income generally does not include net capital gain from disposing of investment property (including capital
gain distributions from
mutual funds). However, you can choose to include all or part of your net capital gain in investment income.
You make this choice by completing Form 4952, line 4g,
according to its instructions.
If you choose to include any amount of your net capital gain in investment income, you must reduce your net capital
gain that is eligible for the
lower capital gains tax rates by the same amount.
Before making either choice, consider the overall effect on your tax liability. Compare your tax if you make one or both of
these choices with your
tax if you do not.
Investment income of child reported on parent's return.
Investment income includes the part of your child's interest
and dividend income that you choose to report on your return. If the child does not have qualified dividends, Alaska Permanent
Fund dividends, or
capital gain distributions, this is the amount on line 6 of Form 8814, Parents' Election To Report Child's Interest and Dividends.
Child's qualified dividends.
If part of the amount you report is your child's qualified dividends, that part (which is reported on Form 1040, line
9b) generally does not count
as investment income. However, you can choose to include all or part of it in investment income, as explained under Choosing to include qualified
dividends, earlier.
Your investment income also includes the amount on Form 8814, line 6, (or, if applicable, the reduced amount figured
next under Child's Alaska
Permanent Fund dividends).
Child's Alaska Permanent Fund dividends.
If part of the amount you report is your child's Alaska Permanent Fund dividends, that part does not count as investment
income. To figure the
amount of your child's income that you can consider your investment income, start with the amount on Form 8814, line 6. Multiply
that amount by a
percentage that is equal to the Alaska Permanent Fund dividends divided by the total amount of interest and dividend income
on Form 8814, lines 1a and
2a. Subtract the result from the amount on Form 8814, line 6.
Child's capital gain distributions.
If part of the amount you report is your child's capital gain distributions, that
part (which is reported on Schedule D, line 13 or Form 1040, line 13) generally does not count as investment income. However,
you can choose to
include all or part of it in investment income, as explained in Choosing to include net capital gain, earlier.
Your investment income also includes the amount on Form 8814, line 6, (or, if applicable, the reduced amount figured
under Child's Alaska
Permanent Fund dividends, earlier).
Investment expenses.
Investment expenses include all income-producing expenses (other than interest expense) relating to investment property
that are allowable
deductions after applying the 2% limit that applies to miscellaneous itemized deductions. Use the smaller of:
-
The investment expenses included on Schedule A (Form 1040), line 22, or
-
The amount on Schedule A, line 26.
Losses from passive activities.
Income or expenses that you used in computing income or loss from a passive activity are not included in determining
your investment income or
investment expenses (including investment interest expense). See Publication 925, Passive Activity and At-Risk Rules, for
information about passive
activities.
Use Form 4952, Investment Interest Expense Deduction, to figure your deduction for investment interest.
Exception to use of Form 4952.
You do not have to complete Form 4952 or attach it to your return if you meet all of the following tests.
-
Your investment interest expense is not more than your investment income from interest and ordinary dividends minus any qualified
dividends.
-
You do not have any other deductible investment expenses.
-
You have no carryover of investment interest expense from 2005.
If you meet all of these tests, you can deduct all of your investment interest.
For more information on investment interest, see Interest Expenses in chapter 3 of Publication 550.
Some interest payments are not deductible. Certain expenses similar to interest also are not deductible. Nondeductible expenses
include the
following items.
-
Personal interest (discussed later).
-
Service charges (however, see Other Expenses in chapter 28).
-
Annual fees for credit cards.
-
Loan fees.
-
Credit investigation fees.
-
FHA mortgage insurance premiums and VA funding fees.
-
Interest to purchase or carry tax-exempt securities.
Penalties.
You cannot deduct fines and penalties paid to a government for violations of law, regardless of their nature.
Personal interest is not deductible. Personal interest is any interest that is not home mortgage interest, investment interest,
business interest,
or other deductible interest. It includes the following items.
-
Interest on car loans (unless you use the car for business).
-
Interest on federal, state, or local income tax.
-
Finance charges on credit cards, retail installment contracts, and revolving charge accounts incurred for personal expenses.
-
Late payment charges by a public utility.
You may be able to deduct interest you pay on a qualified student loan. For details, see Publication 970.
If you use the proceeds of a loan for more than one purpose (for example, personal and business), you must allocate the interest
on the loan to
each use. However, you do not have to allocate home mortgage interest if it is fully deductible, regardless of how the funds
are used.
You allocate interest (other than fully deductible home mortgage interest) on a loan in the same way as the loan itself is
allocated. You do this
by tracing disbursements of the debt proceeds to specific uses. For details on how to do this, see chapter 5 of Publication
535.
You must file Form 1040 to deduct any home mortgage interest expense on your tax return. Where you deduct your interest
expense generally depends on how you use the loan proceeds. See Table 23-1 for a summary of where to deduct your interest
expense.
Home mortgage interest and points.
Deduct the home mortgage interest and points reported to you on Form 1098 on Schedule A (Form 1040), line 10. If you
paid more deductible interest
to the financial institution than the amount shown on Form 1098, show the larger deductible amount on line 10. Attach a statement
explaining the
difference and print “ See attached” next to line 10.
Deduct home mortgage interest that was not reported to you on Form 1098 on Schedule A
(Form 1040), line 11. If you paid home mortgage interest to the person from whom you bought your home, show that person's
name, address, and taxpayer
identification number (TIN) on the dotted lines next to line 11. The seller must give you this number and you must give the
seller your TIN. A Form
W-9, Request for Taxpayer Identification Number and Certification, can be used for this purpose. Failure to meet any of these
requirements may result
in a $50 penalty for each failure. The TIN can be either a social security number, an individual taxpayer identification number
(issued by the
Internal Revenue Service), or an employer identification number. See Social Security Number in chapter 1 for more information about TINs.
If you can take a deduction for points that were not reported to you on Form 1098, deduct
those points on Schedule A (Form 1040), line 12.
More than one borrower.
If you and at least one other person (other than your spouse if you file a joint return) were liable for and paid
interest on a mortgage that was
for your home, and the other person received a Form 1098 showing the interest that was paid during the year, attach a statement
to your return
explaining this. Show how much of the interest each of you paid, and give the name and address of the person who received
the form. Deduct your share
of the interest on Schedule A (Form 1040), line 11, and print “ See attached” next to the line.
Similarly, if you are the payer of record on a mortgage on which there are other borrowers entitled to a deduction
for the interest shown on the
Form 1098 you received, deduct only your share of the interest on Schedule A (Form 1040), line 10. You should let each of
the other borrowers know
what his or her share is.
Mortgage proceeds used for business or investment.
If your home mortgage interest deduction is limited but all or part of the
mortgage proceeds were used for business, investment, or other deductible activities, see Table 23-1. It shows where to deduct
the part of your excess
interest that is for those activities.
Investment interest.
Deduct investment interest, subject to certain limits discussed in Publication 550, on
Schedule A (Form 1040), line 13.
Amortization of bond premium.
There are various ways to treat the premium you pay to buy taxable bonds. See Bond Premium Amortization in Publication 550.
Income-producing rental or royalty interest.
Deduct interest on a loan for income-producing rental or royalty property that is not used in your business in Part
I of Schedule E (Form 1040).
Example.
You rent out part of your home and borrow money to make repairs. You can deduct only the interest
payment for the rented part in Part I of Schedule E (Form 1040). Deduct the rest of the interest payment on Schedule A (Form
1040) if it is deductible
home mortgage interest.
Table 23-1. Where To Deduct Your Interest Expense
|
IF you have ...
|
THEN deduct it on ...
|
AND for more information go to ...
|
|
Deductible student loan interest
|
Form 1040, line 33 or Form 1040A, line 18
|
Publication 970
|
|
Deductible home mortgage interest and points reported on Form 1098
|
Schedule A (Form 1040), line 10
|
Publication 936
|
|
Deductible home mortgage interest not reported on Form 1098
|
Schedule A (Form 1040), line 11
|
Publication 936
|
|
Deductible points not reported on Form 1098
|
Schedule A (Form 1040), line 12
|
Publication 936
|
|
Deductible investment interest (other than interest incurred to produce rents or royalties)
|
Schedule A (Form 1040), line 13
|
Publication 550
|
|
Deductible business interest (non-farm)
|
Schedule C or C-EZ (Form 1040)
|
Publication 535
|
|
Deductible farm business interest
|
Schedule F (Form 1040)
|
Publications 225 and 535
|
|
Deductible interest incurred to produce rents or royalties
|
Schedule E (Form 1040)
|
Publications 527 and 535
|
|
Personal interest
|
Not Deductible
|
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