Can I Deduct HELOC Interest on My Taxes?
Uncover whether your HELOC interest qualifies for a tax deduction. Understand the crucial IRS requirements for home equity loan interest.
Home Equity Lines of Credit (HELOCs) are a type of revolving credit that uses the equity in your home as collateral. These financial tools allow homeowners to borrow against their home’s value, providing access to funds as needed. Many homeowners consider a HELOC a flexible financing option for various purposes. A common question involves the tax implications of interest paid on such a loan. Understanding whether and how HELOC interest can be deducted is important for financial planning.
Current Rules for Home Equity Interest
Generally, interest paid on a home equity loan or HELOC is not deductible for tax purposes unless the borrowed funds are used for specific home-related improvements. The Tax Cuts and Jobs Act (TCJA) of 2017 suspended the deduction for interest on home equity debt for tax years 2018 through 2025, with an exception.
The exception permits the deduction of interest if the loan proceeds are used to “buy, build, or substantially improve” the home that secures the loan. This applies to both new and existing home equity debt, provided the funds meet the specific use criteria.
The interest deduction for qualified home equity debt falls under overall debt limitations. For loans taken out after December 15, 2017, the combined total of all mortgage debt, including the original mortgage and any home equity debt, cannot exceed $750,000 for married couples filing jointly or $375,000 for single filers. If the mortgage debt was incurred before December 16, 2017, higher limits of $1 million ($500,000 for married filing separately) may apply. The loan must also be secured by the taxpayer’s main home or a second home.
Qualifying Use of Loan Funds
For HELOC interest to be deductible, the loan funds must be used to “buy, build, or substantially improve” the residence securing the loan. Substantial improvement means work that significantly adds to the home’s value, prolongs its useful life, or adapts it to new uses. This is distinct from routine repairs or maintenance.
Examples of qualifying uses include:
- Adding a new room
- Remodeling a kitchen or bathroom
- Replacing a roof
- Installing a new HVAC system
- Building an addition
- Making significant structural changes
These types of projects enhance the property’s overall condition and value.
Conversely, if HELOC funds are used for non-housing related purposes, the interest is not deductible. Examples of non-qualifying uses include paying off credit card debt, funding college tuition, purchasing a car, or consolidating other personal debts.
Maintaining meticulous records is important to substantiate how the HELOC funds were used. This includes keeping receipts for materials, invoices from contractors, and bank statements that clearly show the flow of funds from the HELOC to the qualified home improvement expenses.
Claiming the Deduction
The interest deduction for a qualified HELOC is claimed as an itemized deduction on Schedule A (Form 1040), specifically under the “Interest You Paid” section. Taxpayers must choose to itemize deductions rather than taking the standard deduction to claim this benefit. Itemizing is generally beneficial when total itemized deductions exceed the applicable standard deduction amount.
Lenders typically provide a Form 1098, Mortgage Interest Statement, if $600 or more in mortgage interest was paid during the year. This form reports the total interest paid on the mortgage, including any HELOC interest. Taxpayers use the information from Form 1098 to complete the relevant lines on Schedule A.
While Form 1098 shows the total interest paid, taxpayers can only deduct the portion that meets the “qualified use” criteria for buying, building, or substantially improving the home. If a portion of the HELOC funds was used for non-qualifying purposes, that corresponding interest is not deductible. Taxpayers must accurately allocate the interest based on how the funds were utilized.
Maintaining comprehensive records, such as loan documents, receipts for home improvements, and bank statements detailing the use of funds, is essential. Utilizing tax software or consulting a tax professional can help ensure accurate reporting and compliance with all applicable tax laws.