What Interest Is Tax Deductible on Your Taxes?
Not all interest is treated equally by the IRS. Learn the rules for deducting interest on certain types of debt and how to claim the savings on your tax return.
Interest is a fee paid for using borrowed money. The Internal Revenue Service (IRS) permits a tax deduction for only specific categories of interest paid by individuals and businesses. Taxpayers must meet specific criteria to claim these deductions, and understanding these rules is part of managing one’s annual tax obligations.
Deductible Home Mortgage Interest
For many homeowners, the largest interest deduction comes from their home mortgage. To be deductible, the loan must be a secured debt, meaning the home serves as collateral. This applies to a taxpayer’s main or second home, including a house, condominium, co-op, mobile home, or houseboat, as long as it has sleeping, cooking, and toilet facilities. Your lender reports the interest you pay on Form 1098, Mortgage Interest Statement.
The deduction is for home acquisition debt, which is a mortgage taken out to buy, build, or substantially improve a qualified home. Under current law, interest can be deducted on up to $750,000 of home acquisition debt ($375,000 for married individuals filing separately). For mortgages that originated before December 16, 2017, a higher limit of $1 million ($500,000 if married filing separately) may apply.
Interest on a home equity loan or a home equity line of credit (HELOC) is deductible only under specific circumstances. The loan proceeds must be used to buy, build, or substantially improve the home that secures the loan. If the funds are used for other personal expenses, such as paying off credit card debt or taking a vacation, the interest is not deductible.
Points, also known as loan origination fees, are a form of prepaid interest that may also be deductible. If the points are paid on a loan to purchase or build your main home, they can be deducted in full in the year they were paid. For refinancing, the points must be deducted over the life of the loan; for example, on a 30-year mortgage, you would deduct 1/30th of the points each year.
Other Deductible Personal Interest
Student Loan Interest
Beyond mortgage interest, taxpayers may be able to deduct interest paid on qualified student loans. This is an “above-the-line” deduction, meaning you do not need to itemize your deductions to claim it. This benefit can reduce your taxable income by up to $2,500 per year.
The student loan interest deduction is subject to income limitations based on your Modified Adjusted Gross Income (MAGI). For 2024 tax returns, the deduction begins to phase out for single filers with a MAGI between $80,000 and $95,000 and for joint filers with a MAGI between $165,000 and $195,000. If your MAGI is above these ranges, you cannot claim the deduction. Lenders are required to send Form 1098-E if you paid $600 or more in interest during the year.
Investment Interest
Another category of deductible interest is investment interest, which is interest paid on money borrowed to purchase property held for investment. A common example is the interest charged on a margin loan from a brokerage account used to buy stocks. This deduction is claimed as an itemized deduction on Schedule A.
The deduction for investment interest is limited to your net investment income for the year. Net investment income includes items like interest and royalties but excludes qualified dividends and long-term capital gains unless you elect to treat them as investment income. If your investment interest expense exceeds your net investment income, the excess amount can be carried forward to future tax years.
Business Interest Expense
For individuals who are self-employed or own a small business, interest paid on debt related to their trade or business is deductible. This covers interest on loans used for a variety of business purposes, such as a business line of credit, a loan for business equipment, or a mortgage on commercial property. To be deductible, the expense must be both ordinary and necessary for the operation of the business.
While most small businesses can fully deduct their interest expenses, large businesses may be subject to a business interest limitation. This rule does not apply to small businesses with average annual gross receipts below a certain threshold, which is adjusted for inflation ($30 million for the 2024 tax year).
Non-Deductible Personal Interest
Most types of personal interest are not tax-deductible. The IRS prevents taxpayers from deducting interest on debt incurred for personal living expenses. If the interest does not fall into one of the specifically allowed categories, it cannot be claimed on your tax return.
Common types of non-deductible personal interest include:
- Interest paid on credit card balances for personal purchases
- Interest on automobile loans used to purchase a vehicle for personal use
- Interest on personal loans from a bank or an individual
- Finance charges on late utility payments
- Interest charged on unpaid federal or state income taxes
If a loan is used for both personal and business purposes, the interest must be allocated between the uses. For instance, if you use a car 60% for business and 40% for personal trips, only 60% of the interest on the car loan is potentially deductible.
Reporting Deductible Interest on Your Tax Return
Once you determine which interest payments are deductible, you must report them correctly. For deductions that require you to itemize, you will use Schedule A (Form 1040). This is where you report home mortgage interest and investment interest. Investment interest must first be calculated on Form 4952.
Some deductions do not require itemizing and are instead claimed as adjustments to income on Schedule 1 (Form 1040). The most common of these is the student loan interest deduction. The amount you can deduct, up to the $2,500 limit, is entered on Schedule 1 using information from Form 1098-E.
Interest related to a business or rental activity is reported on the corresponding business schedule. For a sole proprietorship, business loan interest is an expense listed on Schedule C. For rental real estate, mortgage interest is reported on Schedule E. These expenses are deducted from your business or rental income.