Is Home Equity Loan Interest Tax Deductible? (Simply Put)
In the past four years, home values in the U.S. have surged by 47%. As a result, homeowners are collectively sitting on close to $33 trillion in home equity — and many are taking advantage of this windfall through equity-backed loans. This begs the question: Is home equity loan interest tax deductible?
Like so many things touched by the IRS, the agency’s answer can sound complex or even ambiguous. In this brief post, we simplify and clarify the key rules. It all starts with an easier question: How are you spending the loan funds?
Is home equity loan interest tax deductible?
Simply put, taxpayers can deduct the interest on a home equity loan or home equity line of credit (HELOC) in most cases if they use the money to renovate or improve the property that backs the equity loan.
There are additional rules and limitations on large or combined equity-backed loan amounts. But since the average equity loan taken out by U.S. homeowners is around $100,000, and the average HELOC balance is about $42,000, most Americans won’t need to claw through the “limits for deductions on all residential debt” spelled out in IRS Publication 936.
Nevertheless, we will share this overview note provided by the IRS:
“Interest on home equity loans and lines of credit are deductible only if the borrowed funds are used to buy, build, or substantially improve the taxpayer’s home that secures the loan. The loan must be secured by the taxpayer’s main home or second home (qualified residence), and meet other requirements.”
In IRS lingo, this qualified interest you pay on the borrowed funds is classified as home acquisition debt. These rules apply to money borrowed for tax years 2018 through 2025. Later in this post, we’ll provide a concise section addressing money borrowed before 2018 and after 2025. (Yes, the IRS has a tax code window for this, but we’ll simplify that, too.)
Does your home equity loan qualify?
Under this “buy, build, or substantially improve” test, you could potentially deduct home equity loan or HELOC interest if the borrowed money is used for the following:
Buy a primary or second home*
Build a primary or second home
Make home improvements to your primary or second home
*A qualified second home must still be a primary residence, such as a vacation home where you actually reside, not a rental or income property with tenants.
If you used the borrowed money for anything else, such as debt consolidation, buying a car, boat, or RV, or paying for your daughter’s wedding, you cannot deduct the loan interest.
In summary, if you use the funds for a qualified renovation or repair on a qualified residence, you can deduct some or all of your home equity loan or home equity line of credit (HELOC) interest on your taxes. The test begins with the phrase “buy, build, or substantially improve” and what percentage of the loan money was applied to this purpose.
Also, both you and your lender must intend that the loan be repaid, and the renovation work on your home must happen in the same calendar year that you borrowed the money.
