Tax Saving Opportunities

The deductibility of interest on home-equity debt offers great tax-saving opportunities. To the extent that you can replace nondeductible personal borrowing with deductible home-equity borrowing, you can have the government help pay the interest on your debts. This makes home-equity lines of credit the debt of choice for millions of homeowners. These loans, secured by your home, offer a line of credit that you can tap simply by writing a check. In addition to preserving the deductibility of interest charged, these loans often carry lower interest rates than unsecured borrowing.

When you buy, the rules on acquisition indebtedness may encourage you to minimize your down payment. Remember that the size of your tax-favored debt is based on your original mortgage—not the price of the house.

The law can also encourage you to borrow rather than pay cash for home improvements. As long as the debt is secured by the home, money going toward an improvement counts as acquisition debt. The tax subsidy of the interest cost could make borrowing cheaper than pulling cash out of an investment to pay for the improvement. You would still count the full cost of the improvement to the basis.

It's important to keep reliable records of your borrowing to back up deductions you claim. If you use a home-equity line, distinguish between borrowing that pays for major home improvements and loans used for other purposes. The amount that goes for improvements is added to your acquisition debt, rather than

The interest on up to $100,000 of home-equity debt is deductible, almost without regard to how the money is spent.

Points you pay to get the new mortgage are not fully deductible in the year paid, except to the extent that the funds are used for home improvements.

eating away at your $100,000 home-equity allowance. Also, if you use money borrowed through a home-equity line of credit or second mortgage for investment or business purposes, you can choose whether to treat the interest as home-equity interest or deduct it as investment or business interest. If, for example, you count it as investment interest—in which case certain restrictions apply—the borrowing would not reduce your $100,000 home-equity allowance.

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