Fully Deductible Interest

• You can fully deduct all of the interest paid on your main home, a second home, a line of credit or a home equity loan if any of the following conditions are met:
  1. The mortgage was taken out on or before October 13, 1987.
  2. Mortgages taken out after October 13, 1987 to buy, build or improve your home total $1 million or less ($500,000 if married filing separately).
  3. Mortgages taken after October 13, 1987 other than to buy, build or improve your home (home-equity loans) total less than $100,000 ($50,000 if married filing separately) and are less than the current equity position in your property (fair market value minus the amount owed on mortgages described in points 1 and 2).
  
  

High Mortgage Limits

• For any mortgage that is not fully deductible, you may deduct a portion of the interest paid.
  If your mortgages total more than $1 million dollars, you may deduct a pro-rated portion of total mortgage interest paid. For example, if you own $1.2 million, you may deduct 83.33 percent of total mortgage interest paid ($1 million / $1.2 million = 83.33 percent).
  
  

Home Equity Loan Limits

• For home-equity debt greater than your current equity, you may be required to pro-rate the interest paid. The limit is interest paid on $100,000 or the fair market value (FMV) of your home minus the outstanding value of home acquisition debt.
  Example 1: Your home is currently worth $150,000 and you owe $120,000. You take a home-equity loan for $35,000 to pay off credit cards. You may deduct interest only on $30,000 (FMV of $150,000 - $120,000 value of home acquisition debt). Interest on the remaining $5,000 cannot be deducted.
  Example 2: Your home is currently worth $150,000 and you owe $120,000. You take a home-equity loan for $35,000 to build an addition to your home. You may deduct interest on the full amount of the loan, because it was used to modify your home, as long as the total amount of debt is less than $1 million.
  
  

Rental Property

• Mortgage interest paid on a rental property is fully deductible, with no limits. If you own rental property with anyone other than a spouse, your deduction is limited to your share in the property. For example, you and three others own an apartment building. Your share in the property is 25 percent and a total $30,000 of interest was paid during the tax year. You may deduct $7,500 in interest on your Schedule E, where you report all income and expenses from your real estate property.
  
  

Other Deductions

• You may also deduct points paid on a residential mortgage and mortgage insurance premiums, though your deduction for these items may be limited if your income is greater than $100,000 ($50,000 for married filing separately). For rental property, points are capitalized and deducted over the period of the mortgage. Consult IRS Publication 527 Residential Rental Property for how to calculate the deduction.
  
  

Filing Your Tax Return

• If you paid more than $600 in mortgage interest during the year, you will receive a Form 1098 Mortgage Interest Statement from the bank or financial institution that holds your mortgage. Use Schedule A to deduct allowable mortgage interest, points and mortgage insurance premiums.
  If you own rental property with others (beside your spouse) and the form was mailed to one of the other owners, put your portion of the interest paid on Schedule E, line 13 and write "see attached" on the line. Attach a document explaining your joint ownership and include the name and address of the individual who received the Form 1098 from the bank.