Tax Loophole Found for Home Equity Loan Interest

Which interest is still deductible despite the Tax Cuts and Jobs Act

The Tax Cuts and Jobs Act of 2017 introduced a slew of new tax breaks while doing away with several others. Some of the tax changes directly affected taxpayers who own a home or plan to purchase one.

The changes include a reduction of the cap on the mortgage interest deduction. The deduction can be claimed only for the interest paid on mortgage debt up to $750,000 if the loan was taken out after Dec. 15, 2017. The previous limit was $1 million. For example, if you have a mortgage for $800,000, you cannot deduct the interest paid on $50,000 of that loan.

In addition, going forward there’s a cap of $10,000 on itemized deductions for state and local taxes (SALT), including property taxes. One of the eliminated measures affects tax benefits for home equity loan interest. Much of that deduction was effectively eliminated—at least through the end of 2025.

The Internal Revenue Service (IRS), however, has left a loophole in the current tax law that would permit some homeowners to continue benefiting from the home equity loan interest deduction.

Key Takeaways

  • Despite new provisions in the Tax Cut and Jobs Act, the IRS in a 2018 advisory memo stated that home equity loan interest may still be deductible, along with interest on HELOCs and second mortgages.
  • To qualify for this deduction, the loan money must be for an IRS-approved use: namely, to “buy, build, or substantially improve the taxpayer’s home."
  • Loan proceeds, however, cannot be used to pay off personal debts or other non-qualified expenses.
  • The deduction is not unlimited. Only interest on mortgage debt up to $750,000 is deductible if the mortgage was granted after Dec. 15, 2017.

New Rules for Deducting Home Equity Loan Interest

In February of 2018, the IRS issued an advisory memo for taxpayers regarding the status of the home equity loan interest deduction under the new set of tax laws. This memo specified that interest on home equity loans, home equity lines of credit (HELOCs), and second mortgages might still be deductible, so long as the loan is for an IRS-approved use.

Specifically, second mortgages must be used to “buy, build, or substantially improve the taxpayer’s home that secures the loan” for the interest to be deductible.

While the IRS did not include a list of expenses that would be covered under the law’s provisions, their advice did include some examples of allowable home-improvement expenses, such as building an addition to your home. Other purposes that qualify for the deduction if you’re using a home equity loan or HELOC include:

  • Putting a new roof on the property
  • Replacing your HVAC system
  • Completing an extensive kitchen or bathroom remodeling project
  • Resurfacing your driveway

Impact of the New Home Equity Loan Rules

The preservation of this deduction for eligible taxpayers is good news for homeowners. An Oct. 2017 TransUnion report estimated that more than two-thirds of homeowners could be eligible for a HELOC, and HELOC originations are expected to reach up to 11 million by 2022.

The report also estimated that there will be more than double the number of consumers who open a HELOC by 2022 compared to 2016. Keeping the home equity loan deduction—even in limited form—may also have positive implications in encouraging home-ownership.

Other provisions of the tax bill could, however, have the opposite effect. In addition to steep cuts in the state and local tax deductions, the standard deduction has almost doubled to $12,000 for single filers and $24,000 for married couples filing a joint return.

According to a 2017 report from the National Association of Realtors, the higher standard deduction is expected to shrink the number of taxpayers who would find it advantageous to claim mortgage interest and property tax deductions by itemizing. And, indeed, according to a report in the New York Times based on IRS statistics, 20% of taxpayers claimed the mortgage interest deduction for the 2017 tax year, but only 8% did so for the 2018 tax year.

This implies that there was little tax differential between renting and owning for more than 90% of taxpayers that year.

Still, retaining the home equity loan deduction may be viewed as an added incentive to buy instead of rent.


The number of taxpayers who took the mortgage interest deduction in the 2018 tax year. That's down from 20% the prior year.

Best Practices for Claiming the Home Equity Interest Deduction

If you own a home and are planning to claim the home equity loan interest deduction, there are a few things to remember.

First, the money must be used for home improvements or renovations. You cannot take the deduction if you are using home equity proceeds to pay for personal expenditures or to consolidate credit card debt, for example. The same goes if you are taking out a loan and letting the money sit in the bank as your just-in-case fund for emergencies.

What's more, the renovations have to be made on the property on which you are taking out the home equity loan. You cannot, for example, take out a loan on your primary residence and use the money to renovate your cottage at the lake.

Records of Expenses and Deduction Limits

Next, keep proper records of your expenses. The odds of being audited by the IRS are generally low, but you do not want to take any chances. If you’re planning to use a home equity loan or HELOC to pay for home repairs or upgrades, be sure to keep receipts for everything you spend and bank statements showing where the money went.

Finally, remember that this deduction is not unlimited. You can deduct the interest on up to $750,000 in home loan debts, if the loans were made after Dec. 15, 2017. If your total mortgage debt is higher than that, you won't be able to deduct all of the combined interest paid. The $1-million cap applies for mortgages obtained before that date.

As interest on older mortgages retains a legacy to $1 million loans, check carefully with your accountant about what you can deduct if you have both an older mortgage and a home equity loan that qualifies for deductions.

The Bottom Line

A home equity loan or HELOC can be a convenient source of funding when you want to spruce up your home. Snagging a tax deduction for the interest you pay is an added perk. As with any other loan, however, take the time to compare interest rates and loan terms from different lenders to find the best deal possible.

Mortgage lending discrimination is illegal. If you think you've been discriminated against based on race, religion, sex, marital status, use of public assistance, national origin, disability, or age, there are steps you can take. One such step is to file a report to the Consumer Financial Protection Bureau or with the U.S. Department of Housing and Urban Development (HUD).

Article Sources

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  1. Congress. "H.R.1 - An Act to provide for reconciliation pursuant to titles II and V of the concurrent resolution on the budget for fiscal year 2018." Accessed Jan. 10, 2021.

  2. Internal Revenue Service. "Publication 936 (2019), Home Mortgage Interest Deduction." Accessed Jan. 10, 2021.

  3. Internal Revenue Service. "Topic No. 503 Deductible Taxes." Accessed Jan. 10, 2021.

  4. Internal Revenue Service. "Interest on Home Equity Loans Often Still Deductible Under New Law." Accessed Jan. 10, 2021.

  5. TransUnion. "The Return of the HELOC: The Number of Consumers Opening HELOCs May Double During the Next Five Years." Accessed Jan. 10, 2021.

  6. Internal Revenue Service. "Be Tax Ready – understanding tax reform changes affecting individuals and families." Accessed Jan. 10, 2021.

  7. The National Association of Realtors. "NAR Issue Brief: Summary of NAR Study on Tax Reform." Accessed Jan. 10, 2021.

  8. The New York Times. "As Mortgage-Interest Deduction Vanishes, Housing Market Offers a Shrug." Accessed Jan. 10, 2021.