Home Mortgage Interest Compliance Initiative Project
Compliance Initiative Project
Definition – Any activities involving contact with specific taxpayers within a group, using either internal or external data to identify potential areas of noncompliance within the group, for the purpose of correcting the noncompliance.
Why Home Mortgage Interest?
Real Estate Value Appreciation and Lower Interest Rates in Recent Years. Amount of interest paid and deductible is limited by the Internal Revenue Code. F1098 shows no deduction limitation on the amount of interest paid.
Tax Law
Personal Interest is NOT Deductible. Personal Interest is Not:
Trade or business interest. Investment interest. Qualified residence interest. Interest related to a passive activity loss. Interest on educational loans.
Qualified Residence Interest
Interest paid on: • Acquisition Indebtedness on any qualified residence, or • Home Equity Indebtedness on any qualified residence.
Qualified Residence
Qualified Residence is a principal residence (within the meaning of IRC Sec. 121) and one other residence (within the meaning of IRC Sec. 280A(d)(1). Qualified Residence may be a house, condo, mobile home, boat or any other property used as a dwelling.
Acquisition Indebtedness
The original or refinanced debt: 1. Used to acquire, construct, or improve a principal or second residence, 2. Secured by the residence, and 3. Limited to $1,000,000 ($500,000 for a person married filing separately). 4. Exception to the $1,000,000 is debt secured by qualified residence before October 13, 1987. Pre-October 1987 reduces the $1,000,000 limit for debt acquired after that date.
Home Equity Indebtedness
Debt (other than acquisition indebtedness) secured by the principal or second residence that does not exceed the lesser of: 1. FMV of residence Less: Acquisition indebtedness, or 2. $100,000 ($50,000 for married filing separately).
Other Home Mortgage Interest Deductions
Points Generally amortized over the life of the loan. May be deducted in the year when certain criteria are met: Limited to amount charged on loan of $1 million for home acquisition debt.
Other Home Mortgage Interest Deductions
Prepayment Penalties Deductible as interest in the year of payment if the penalties are not rolled over into the new loan. Limited to penalty on loan for home acquisition debt or for home equity debt.
Tracing Rules
Interest expense on debt is allocated in the same manner as the debt to which such interest expense relates is allocated. Debt is allocated by tracing disbursements of the debt proceeds to specific expenditures. IRC Sec. 1.163-8T prescribes rules for tracing debt proceeds to specific expenditures.
Determining Average Balance
Mortgage consists of only one category of debt:
– Average of first and last balance method. – Interest paid divided by interest rate method. – Statements provided by lender (monthly, daily) method. – Highest principal balance.
Mixed Use Mortgages Anti-Abuse Rule
Computation of Deductible Home Mortgage Interest
In General, Acquisition Indebtedness Less than $1 million: All deductible. Exceeds $1 million: ($1 million/Sum Total Average Acquisition Debt Balance) x Total Interest Paid
Home Equity Indebtedness
In General Home Equity Indebtedness Less than $100,000: All deductible (Limited to FMV – Home Acquisition Indebtedness). Exceeds $100,000:
($100,000/Sum Total Average Home Equity Balance) x Total Interest Paid
Other Considerations
3rd Residence - Investment Interest? Alternative Minimum Tax Electing Out of Home Equity Indebtedness Treatment Mortgage Interest Deductions on Other Schedules
Audit Techniques
Pre-Audit Work
– Training/Workshops – IRP – Accurint, Zillow.com
Information Document Requests Interview Necessary? Prior and Subsequent Years Penalties
Case Examples