A home equity loan is a loan that is secured from the value of your home. Essentially, you are borrowing against the equity you have in your home and pay the loan back in monthly installments, similar to how you pay a mortgage. Furthermore, people typically use home equity loans for home improvements or repairs, to consolidate debt, pay educational expenses, or to pay for medical or household bills. However, the amount of money you are able to receive from a home equity loan largely depends on how much equity you currently have.
Other factors such as household income, credit score, and market value of your home all play a part in how large of a loan you can receive. However, you will typically be able to get a loan worth 85 percent of the equity you have in your home. For example, if you took out a $300,000 mortgage yet paid back $100,000, you have $100,000 of equity in your home. In this case, you will typically be able to receive an $85,000 home equity loan.
Home equity loans are useful to get out of high-interest debt or improve your home. However, another benefit is that in certain circumstances, the interest you incur from your home equity loan is tax-deductible. In the past, you could deduct interest from a home equity loan no matter what you used the loan for. Thus, the loan could be for a home repair, college tuition, or any other expense and you could receive a tax deduction. However, after the 2017 Tax Cut and Jobs Act, there are new restrictions on what purchases are deductible from a home equity loan and the amount you can deduct from your taxes.
Rules on Deducting Home Equity Loans, Home Equity Line of Credits, or Second Mortgage Interest
Currently, under the new laws, you are only able to claim the tax deductions if you purchase, build, or substantially renovate your home. Additionally, if you are using the home equity loan to renovate your home, it must be “substantial” to receive the tax deductions. Under the new laws, the IRS states that a substantial renovation includes an improvement that adds value, prolongs its use, or adapts a home for new use. Thus, if you use a home equity loan to add an addition to your home or completely redo a key structure attached to the house, you will likely qualify for a tax credit. Adding a new heating or cooling system or repairing your home so it stays in good condition are not tax-deductible.
Tax Deduction Amounts
Under the new law, married couples filing taxes jointly can deduct interest from up to $750,000 worth of qualified loans. Married couples filing separately, or single filers can only deduct interest from up to $375,000 worth of loans. Furthermore, this applies to any mortgage-related purchases occurring after December 15th, 2017. It will apply to your taxes between 2018-2025. Mortgage-related deductions include the interest you pay on a mortgage, home equity loan, home equity line of credit, or mortgage refinance. Finally, if one of these loans was taken prior to December 15th, 2017, during the 2018 tax year, married couples can claim deductions on up to $1,000,000 worth of loans. Married couples filing jointly and single filers can claim deductions on up to $500,000 worth of loans.
One other restriction concerning tax deductions on mortgage-related expenses is that you can only take deductions if the loans are from your primary or secondary residence. Thus, if you own three homes and took a home equity loan on all three of the homes, you would only be able to receive possible deductions from the first two properties.
One other point to note is if you took out a home equity loan and used part of the loan to repair your home and used the other portion to pay for a non-home-related expense. In this case, talk to a tax advisor to see what deductions you qualify for. Finally, ensure that you have documentation for all the labor and materials from your project. The best way to keep track of these expenses is to keep all receipts and invoices you receive. This is crucial if you were to ever receive an audit. These materials would help prove that your deductions were valid.
Should I Deduct Interest on my Home Equity Loan
From the 2017 Tax Cut and Jobs Act, the standard deduction for both married and single filers has also increased. Single filers and married couples filing separately can now claim a $12,000 standard deduction. Married couples filing jointly get a $24,000 deduction, and heads of households get an $18,000 deduction. Additionally, filers who have a disability or who are elderly could receive additional deductions depending on their marital status. Thus, in certain cases, you may receive a larger tax break if you use the standard deduction.
New changes to the alternative minimum tax (AMT) may also impact which tax deduction you choose. The AMT applies to high-income taxpayers. If you fall under this category, you must fill out both a regular tax return and an AMT return and pay on whichever return is higher. The AMT return now applies to married couples filing jointly making over $109,400 and married couples filing separately and making over $54,700. All other filers will fall under this category if they make above $70,300. If you pay on the AMT, you are able to deduct interest from a mortgage but not home equity interest. Thus, if you are a high-income individual or family, deducting interest from a home equity loan may offer you little to no benefits.
What Material You Need to Deduct Home Equity Interest
Before you can receive a tax deduction on your home equity loan, you’ll need to gather the following documents:
- Mortgage Interest Statement (Form 1098). You should receive this form your home equity loan lender. This form shows the total amount of interest paid on the loan during the previous tax year.
- Statement for additional interest paid, if applicable. If you paid more home equity loan interest than what’s shown on your Form 1098, you’ll need to attach a statement to your tax return with the additional amount of interest paid. Furthermore, you will also have to provide an explanation for the discrepancy.
- Proof of how home equity funds were used. As stated above, keep receipts and invoices for any expenses incurred from significantly improving the value, longevity, or adaptability of your home.
Other Homeowner Tax Benefits
A home equity loan may not be the only tax deduction you can receive from owning a home. Below are four of the most common types of tax benefits available to homeowners:
- Mortgage interest paid. As with the home equity loan interest deduction, you can deduct the interest that you pay on your first mortgage and refinanced mortgages.
- State and local real estate tax deduction. You can deduct property taxes up to $10,000 when filing jointly ($5,000 if you’re married but filing separately).
- Points. Points may be added to your home mortgage at an extra cost to you. You may be able to deduct some or all of the points for the year if you meet certain criteria.
- Capital Gains. When you sell a personal home, you can keep a portion of the profits tax-free. Under capital gains tax laws, individual filers can keep up to $250,000 of their gains tax-free. Married couples can keep up to $500,000.
Final thoughts
With over 20 years of experience, Antonoplos & Associates real estate attorneys have the knowledge and experience required to assist clients with tax deduction legal issues in DC, Maryland, and Virginia. Furthermore, Peter Antonoplos, founder and managing partner of Antonoplos & Associates has an LLM in Taxation from Georgetown University Law Center. With this knowledge, Peter can maximize the tax deduction benefits you receive if you live in DC, Maryland, or Virginia.
Contact our DC Law Office for More Information
Finally, for more information regarding are home equity loans tax-deductible, contact us at 202-803-5676. You can also directly schedule a consultation with one of our skilled attorneys. Additionally, for general information regarding real estate law, check out our blog.