Question

In Year 1 Jorge buys a home for $200,000, making a down payment of $40,000 and taking out a loan from the bank for $160,000 to finance the balance. In Year 5 the remaining loan balance is $130,000 while the home has increased in value to $270,000. Jorge refinances with a loan company that agrees to lend 125% of the value of the home, or $337,500, using $130,000 to repay the bank loan and providing $207,500 in cash. Jorge immediately spends $10,000 of the cash on a lavish vacation to the Bahamas, and $20,000 to pay down credit cards.

How much of the $337,500 home equity loan balance is allowable for calculating the home mortgage interest deduction on Jorge’s Year 5 tax return?

a. $270,000
b. $240,000
c. $230,000
d. $220,000

Answer 1

Under current tax law, no option is correct. Before 2018, option C would have been right.

Step-by-step explanation:

Currently under the Tax Cuts and Jobs Act (from Jan. 2018 until Dec. 2025) you can only deduct interests on mortgages used to purchase, build or improve your home. In this case, Jorge will only be able to deduct the interests paid on the $130,000 he owed for the first mortgage.

Interests on home equity loans will again be deductible (up to $100,000) starting Jan. 2026.