Can You Roll a HELOC Into a Mortgage and Deduct the Interest?

Homeowners with a home equity line of credit (HELOC) may consider rolling it into their primary mortgage to simplify payments or secure better terms. This process, often done through refinancing, affects interest rates, loan duration, and tax deductions.

Understanding key factors is essential before making a decision.

Eligibility Criteria

Lenders evaluate several factors before approving a refinance that consolidates a HELOC into a primary mortgage. Credit score, debt-to-income (DTI) ratio, and payment history are key considerations. A credit score of 620 or higher improves approval chances, while a DTI below 43% signals a borrower can manage additional debt.

Home equity is another major factor. Lenders typically require at least 20% equity to refinance without private mortgage insurance (PMI). If the combined loan-to-value (CLTV) ratio exceeds 80%, borrowers may face higher interest rates or additional costs. The home’s appraised value determines available equity, and market fluctuations can affect eligibility.

Income stability also matters. Lenders review employment history and income consistency to ensure borrowers can meet new loan obligations. Self-employed individuals may need to provide tax returns or profit-and-loss statements. Recent financial hardships, such as missed payments or significant new debt, can reduce approval chances.

Types of Refinance Approaches

There are multiple ways to refinance a HELOC into a primary mortgage, each with unique benefits and drawbacks.

A rate-and-term refinance replaces the existing mortgage with a new loan that includes the HELOC balance. This option can lower the interest rate, adjust the loan term, or convert a variable-rate HELOC into a fixed-rate loan, offering more predictable payments.

A cash-out refinance allows homeowners to take out a new mortgage for more than they owe on their existing loan and HELOC, receiving the difference in cash. This option can provide funds for home improvements or other expenses but may lead to higher monthly payments. Lenders typically require a lower loan-to-value (LTV) ratio for cash-out refinances, meaning borrowers need substantial home equity to qualify.

Some homeowners opt for a home equity loan instead of refinancing into a single mortgage. Unlike a HELOC, a home equity loan provides a fixed amount with a set repayment schedule, offering stable payments. This may be preferable for those who want to keep their primary mortgage unchanged while consolidating their HELOC separately.

Documentation Needed

Lenders require extensive documentation to evaluate a borrower’s financial standing before approving a refinance.

Proof of income is critical, typically including recent pay stubs, W-2 forms, and tax returns from the past two years. Retirees may need pension statements or Social Security benefit letters, while rental property owners often must provide lease agreements and rental income documentation.

Lenders also review assets to ensure borrowers have enough reserves to cover closing costs and financial setbacks. Bank statements from the past two to three months are commonly required, along with investment or retirement account summaries if relevant. Large deposits or irregular transactions may need explanations to confirm they are not undisclosed loans.

Debt obligations must be disclosed, as they impact the borrower’s ability to manage a refinanced loan. Lenders review recent credit card statements, outstanding loan balances, and any co-signed debts. If the borrower has an existing second mortgage or other liens on the property, detailed payoff statements are usually required to ensure a clear title.

Loan Closing Considerations

Finalizing a refinance that consolidates a HELOC into a primary mortgage involves financial and procedural factors that affect overall costs and long-term benefits.

Closing costs typically range from 2% to 6% of the loan amount. These fees include origination charges, appraisal costs, title insurance, and prepaid interest. Some lenders offer no-closing-cost refinancing, but this usually results in a higher interest rate or rolling the fees into the loan balance.

The new amortization schedule is another key factor. Extending the repayment period can reduce monthly payments but may increase total interest costs. A shorter term accelerates equity buildup and reduces interest expenses but raises monthly payments. Borrowers should compare a loan estimate against their current obligations to determine the best structure.

Tax Deductions

Rolling a HELOC into a mortgage can affect tax deductions, particularly for interest payments.

The IRS allows mortgage interest deductions under specific conditions. Under the Tax Cuts and Jobs Act (TCJA), interest on home equity debt is deductible only if the funds were used to buy, build, or substantially improve the home securing the loan. If the HELOC was used for home renovations, the interest on the refinanced loan may still qualify for deductions. However, if the funds were used for personal expenses, such as debt consolidation or tuition, the interest may no longer be deductible.

Proper documentation is essential to substantiate the use of funds for tax purposes. Homeowners should keep records of home improvement expenses, such as contractor invoices and receipts for materials, to support deduction claims. The IRS may request this documentation in an audit.

Taxpayers refinancing into a larger loan should note that interest deductions are limited to mortgage debt up to $750,000 for loans taken after December 15, 2017. Those with existing loans exceeding this threshold may face restrictions on the deductible portion of their interest payments. Consulting a tax professional can help homeowners navigate these rules and maximize deductions.