Question

Mortgage Interest Deduction for Multiple Mortgages during the year

Forum|Forum|2 years ago
March 18, 2024
2 replies
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Hi,

I've seen several posts on how Turbo-Tax computes mortgage interest deduction, but I don't see a good conclusion. Here's my situation with two mortgage balances over the year (I've simplified the numbers for make the calculations easier):

Month	Mortgage-A (pre-2017)	Mortgage-B (2023)
1	400,000.00
2	400,000.00
3	400,000.00
4	400,000.00
5	400,000.00
6	400,000.00
7	400,000.00	1,800,000.00
8		800,000.00
9		800,000.00
10		800,000.00
11		800,000.00
12		800,000.00
Total Interest Paid	$7000	$20,000

Here are the applicable documents I've found from IRS and Googling:

The second reference describes two methods -

A simplified method that is similar to the method used by Turbo-Tax or the worksheet in IRS Pub 936.

"Under the simplified method, interest on all secured debts is multiplied by a fraction, the numerator of which is the adjusted purchase price of the qualified residence and the denominator of which is the sum of the average balances of all secured debts. Since enactment of OBRA 1987 the $1,000,000 acquisition indebtedness limitation and the $100,000 home equity indebtedness limitation must be substituted for the adjusted purchase price."

An exact method which seems to be the right thing do to for most folks who have multiple mortgages like the above -

"Under the exact method, the amount of qualified residence interest is determined on a debt-by-debt basis by comparing the applicable debt limit for the debt to the average balance of each debt."

If I use the exact method to the situation above, then I would proceed as follows:

[A] For the pre-2017 mortgage, all of the $7K interest is qualified because the average mortgage balance ($400K) is within the pre-2017 limit (which is $1M).
[B] For the new 2023 mortgage, the average mortgage balance is $966K and only the fraction ($750K/$966K = ~78%) is allowed due to the TCJA $750K limit. This comes to $20K * 78% = $15517.

So, the total allowed deduction is $7000 + $15517 = $22517.

Can a TT expert confirm that this is the right way do approach this situation? If so, how do I massage Turbo-Tax so this get e-filed correctly without any ambiguity?

Thanks!

Z

zomboo

No, the mortgage interest deduction limits are not applied separately to each loan. If all of the debt is acquisition debt and the average of mortgage A (pre-2017) is $400,000 and the the average of mortgage B (post-2017) is $966,000, the limit on the combined mortgages is $750,000. So the percentage of your deductible interest is $750,000/($400K + $966K) = 54.9% of $27,000 = $14,823.

It appears that your example is selling a home and paying off the old mortgage and buying a new home with a new mortgage. This situation sucks the most for mortgage interest deductions. For 2023, you have two separate loans limited to 54.9%. Next year you will one loan limited to 93.8% ($750,000/$800,000) = 93.8%.

Turbo Tax uses the beginning and ending balance method to calculate the average balances. This is one of the averaging methods in pub 936 but generally yields a slightly less deduction. In the past they just used the ending balances without averaging at all and not rounding the result to three decimal places to figure the percentage. This method is no where to be seen in pub 936 but generally yields higher deductions. The averaging method you used is the statement balance method on page 12 of pub 936.

R

rvijaycAuthor

Thanks @zomboo for the reply. But, this seems counter-intuitive in many ways. For example, if I only report the second mortgage-B (average balance $966K and interest $20K), I get a deduction of $15.5K which is higher than the case with both mortgages reported ($14.8K), but I suppose that I don't have a choice here and I need to report both of them as potentially qualified interest deductions?

What about the case where I refinanced a (post-2017) 750K mortgage in the middle of the year and I receive 2 1098s (one from each lender). Does this situation result in my mortgage interest deduction getting slashed by 50% for that year?

It also seems to like the best time to execute a simultaneous sale/purchase (or refinance) is at the end of the year timed such a way that we get exactly one 1098 per year (so that they don't get bunched up in a single year).

A "fair" approach (that also seems intuitive) would be to compute the qualified interest on a month-by-month basis by comparing the per-mortgage average balance at the end of each month summed together against the corresponding debt limit, and then sum the monthly qualified interest together to compute the qualified interest for the year. Does anyone know if IRS allows this detailed approach?

Thanks!

Z

zomboo

Yes, unfortunately, you must report both mortgages. If you refinance a post-2017 $750K mortgage in the middle of the year and receive two 1098s (one from each lender) it is treated as a single mortgage over the months the mortgages are held. The refinancing mortgage assumes the debt of the refinanced loan. The interest deduction is not slashed by 50% for that year. This is not the case when you sell one home and buy another. In that case, the old loan is paid off and not assumed by the new loan.

The only way to execute a sale/purchase so that you only have one mortgage in each year is to sell the old house in the current year, move to grandma’s house into the new year and then buy a new home.

The fairest approach, in my opinion, is to simply treat sale/purchase as a refinance which in effect combines the monthly balances of the two loans, summing the monthly totals, and dividing by the number of months the two loans span (usually 12).

Do you mean by “fair’ approach it would be fairer to compute the deductible interest for each loan separately by first calculating the average balance by summing the monthly balances and dividing the total by the applicable number of months and then subjecting this average to the limit for that loan to get the percentage of deductible interest for each loan? Then add the deductible interest from each to get the total deductible interest. This does seem fairer but it allows taxpayers to exceed the overall mortgage deduction limits set out in pub 936. So the answer to your question is no, the IRS does not allow this approach. Although your method of computing the average balance is allowed and, I believe, results in a slightly higher deduction.

V

vk16

@rvijayc

I am in similar situation as yours and I am not tax expert but I believe I found solution to this in Pub 936.

Search for " Interest paid divided by interest rate method" for calculating average balance of each mortgage in Pub 936.

This seems to work great for me.

@zomboo

Pls let me know if you disagree with " Interest paid divided by interest rate method" for calculating average balance of each mortgage in Pub 936 for any reason.

Z

zomboo

The interest paid divided by the interest method in Pub 936 applies to mortgages held throughout the year. With that said, this method, and everything else in Pub 936, does not make sense when you sell your existing main home and purchase a new one in the same year. This method when applied to a mortgage held less than 12 months, approximates the 12 month average with $0 balance inserted for months the mortgage was not held.

The IRS concluded in memorandum [removed] (2012) concluded that tax payers could use any reasonable method to determine the amount of deductible interest. I don't know how relevant the memo is today, but we all know Pub 936 is not reasonable in the case of selling and buying a main home in the same year.

You can only have one main home at a time during the year. I think it is reasonable to treat your sold and bought homes as one aggregate main home. Both the 'interest paid divided by the interest rate' and the '12 month average' averaging methods will work for this. In order to be really reasonable, you should replace the interest and balance for one of the mortgages with $0 in the months the two mortgages overlap.

V

vk16

Hi @zomboo

Thanks for your response.

I am little confused when you say "Interest paid divided by interest rate method " method can NOT be used for mortgages less than 12 months in duration. I thought "less than a year mortgage duration" was the only reason why this method makes sense.

here's the text from the publication : You can use this method if at all times in 2023 the mortgage was secured by your qualified home and the interest was paid at least monthly.

As you can see, it does not mention whole year mortgage requirement. It does mention "at all times" requirement for securing the mortgage with qualified home.

In my case I simply bought another home last year but didn't sell previous one.

so I have primary (for part of year) & second home (whole year) mortgages and using "Interest paid divided by interest rate method ", it seems to do the right thing.

Pub 936 also talks about another method : "Statements provided by your lender"

I put ** in the relevant text of that method, seems like that method is also meant for cases of less than a year mortgage duration and this method also seems to make sense.

If you receive monthly statements showing the closing balance or the average balance for the month, you can use either to figure your average balance for the year. **You can treat the balance as zero for any month the mortgage wasn't secured by your qualified home.**

For each mortgage, figure your average balance by adding your monthly closing or average balances and dividing that total by the number of months the home secured by that mortgage was a qualified home during the year.

I believe I can use either "Interest paid divided by interest rate method" or "Statements provided by your lender" for my situation and default "Average of first and last balance method" method does incorrect calculations for cases of multiple mortgages with less than year duration.

does this make sense?