In some divorces, particularly with a high net worth, all of the mortgage interest of the individual may not be deductible. IRS Publication 936 offers specific guidance in that regard. On page 3 of IRS Publication 936 is a chart that illustrates whether it is necessary to consider this limitation on the mortgage interest deduction.  Tthis chart can be confusing, so this article attempts to clarify the rules related to this limitation on the mortgage interest deduction.

Home mortgage interest is a tax-deductible expense.  Mortgage interest is reported on Form 1040, Schedule A along with other itemized deductions such as real estate property taxes, medical expenses, and charitable contributions.
Mortgage interest includes interest you paid on loans to buy a home, home equity lines of credit, and construction loans.  The amount you can deduct may be limited, however.  A taxpayer can only deduct interest paid on the main home and a second home.  Interest paid on third or fourth homes, for example, is not deductible.

You need to meet the all the following requirements in order to deduct your mortgage interest:

1. You must file Form 1040 and itemize deductions on Schedule A.

2. You must be legally liable for the loan.  You cannot deduct payments you make for someone else if you are not legally liable to make them.  Both you and the lender must intend that the loan be repaid.  In addition, there must be a true debtor-creditor relationship between you and the lender.

3. The mortgage must be a secured debt on a qualified home.  A qualified home is your main home or your second home.  According to IRS Publication 936, a home includes a house, condominium, cooperative, mobile home, house trailer, boat, or similar property that has sleeping, cooking, and toilet facilities.

Recordkeeping. You should receive a Form 1098, Mortgage Interest Statement, from each mortgage lender.  This form reports the total interest that you paid during the tax year.  The financial institution will also send a copy of Form 1098 directly to the IRS.  Make sure that the mortgage interest deduction you claim on Schedule A matches the amounts reported on Forms 1098. The amount you can deduct may be less than the amount you paid, based on limitations of the mortgage interest deduction.

Home acquisition debt limit.  The total amount you can treat as home acquisition debt at any time on your main home and second home cannot be more than $1 million ($500,000 if married filing separately).

Refinanced home acquisition debt.  Any secured debt you use to refinance home acquisition debt is treated as home acquisition debt.  However, the new debt will qualify as home acquisition debt only up to the amount of the balance of the old mortgage principal just before the refinancing.  Any additional debt not used to buy, build, or substantially improve a qualified home is not home acquisition debt, but may qualify as home equity debt.

Mortgage treated as used to buy, build, or improve home.  A mortgage secured by a qualified home may be treated as home acquisition debt, even if you do not actually use the proceeds to buy, build, or substantially improve the home. This applies in the following situations:
1. You buy your home within 90 days before or after the date you take out the mortgage.  The home acquisition debt is limited to the home’s cost, plus the cost of any substantial improvements within the limit described below in (2) or (3).

2. You build or improve your home and take out the mortgage before the work is completed.  The home acquisition debt is limited to the amount of the expenses incurred within 24 months before the date of the mortgage.

3. You build or improve your home and take out the mortgage within 90 days after the work is completed. The home acquisition debt is limited to the amount of the expenses incurred within the period beginning 24 months before the work is completed and ending on the date of the mortgage.

Home equity debt. If you took out a loan for reasons other than to buy, build, or substantially improve your home, it may qualify as home equity debt.  In addition, debt you incurred to buy, build, or substantially improve your home, to the extent it is more than the home acquisition debt limit, may qualify as home equity debt.

Home equity debt is a mortgage that:

1. Does not qualify as home acquisition debt or as grandfathered debt, and

2. Is secured by your qualified home.

Home equity debt limit.  There is a limit on the amount of debt that can be treated as home equity debt. The total home equity debt on your main home and second home is limited to the smaller of:

1. $100,000 ($50,000 if married filing separately), or

2. The total of each home’s fair market value reduced (but not below zero) by the amount of its home acquisition debt and grandfathered debt.

It is important to note that all of the information above assumes a mortgage initiated after October 13, 1987.  Such mortgages prior to that date are subject to additional rules not addressed above.