Can I Deduct HELOC Interest on my Income Taxes?

If you've got a home equity line of credit, or HELOC, you may be wondering what exactly you're allowed to deduct on your income taxes.

It's a good question, and you're not the only one who wants to know. The relevant tax laws were last overhauled in 2017, via the Tax Cuts and Jobs Act (TCJA), but the changes it put into place are still creating confusion among some taxpayers.

Under the old rules, homeowners could deduct the interest expense on up to $1 million of home mortgage debt plus $100,000 of home equity debt (those limits are cut in half for married taxpayers filing separately). It didn't matter how you used the home equity loan. Whether you used the money to cover education expenses, remodel your kitchen or consolidate high-interest credit card debt, you could claim a HELOC tax deduction on your tax return.

But is HELOC interest tax deductible now? The TCJA has made the situation a little more complex. Here's what you need to know.

The mortgage interest deduction limit has gone down

Under the current rules, homeowners can deduct the interest on up to $750,000 of home mortgage debt ($375,000 if married filing separately). That includes both your primary mortgage and any home equity loan or line of credit, combined. Given the high home values in Hawaii, this may impact a lot of island homeowners.

The $750,000 limit on home owner tax deductions generally applies to mortgages taken out after December 15, 2017. However, if you were in a binding contract to purchase your home on December 15, 2017, and the home was purchased before April 1, 2018, the higher $1 million limit still applies.

How you spend your HELOC money affects its deductibility

The TCJA suspended the deduction for interest on home equity debt—at least through December 31, 2025. Yet you may still be able to deduct interest on your HELOC, depending on how you use the money.

In February of 2018, the IRS issued IR-2018-32, clarifying that taxpayers can still deduct interest on a home equity loan, HELOC, or second mortgage as long as the proceeds were used to “buy, build or substantially improve" the home that secures the loan.

So, if you use your HELOC to build an addition on the house or remodel the kitchen, the interest is still deductible (up to the $750,000 limit). Likewise, if you use a HELOC to refinance your existing mortgage, the interest is deductible. However, if you used your HELOC to buy a second home or investment property, pay down credit card debt or cover educational costs, the interest on those purchases is not deductible.

If you use your HELOC for both deductible and non-deductible purposes—say to remodel your kitchen and pay off credit card debt—you'll need to keep track of how you spent the money. At tax time, you'll be able to review those receipts with your accountant or tax advisor to ensure you take advantage of the deductible interest on your home improvements.

You don't have to send copies of those receipts to the IRS, but you should hold on to them just in case the IRS selects your tax return for audit. The IRS recommends keeping any tax records related to real estate—including purchase documents and receipts for major renovations—for as long as you own the property, and then three years after you file a tax return reporting the sale or disposal of the property.

You must itemize to benefit from a HELOC tax deduction

The TCJA threw another wrench into the process of deducting HELOC interest by increasing the standard deduction.

When you file a tax return, you choose between itemizing deductions on Schedule A or claiming the standard deduction. If your total itemized deductions are greater than the standard deduction available for your filing status, you'll generally choose to itemize. The TCJA roughly doubled the available standard deduction for each filing status and, as a result, fewer taxpayers now benefit from itemizing.

For the 2021 tax year (tax returns filed in 2022), the standard deductions are:

$12,550 for single or married filing separately
$25,100 for married filing jointly
$18,800 for head of household

So, if you're a married couple filing a joint tax return, your total itemized deductions, including home mortgage interest, deductible HELOC interest, state and local taxes, and gifts to charity would have to be greater than $25,100 to benefit from itemizing (and thus benefit from deducting home equity interest).

Here's a quick example situation

Let's take what we learned above and see how the current tax laws might affect you. Say the balance on your first mortgage for your home in Hawaii is $675,000. You want to take out a home equity line of credit for $100,000 to remodel the home.

Because you plan to use the HELOC proceeds on home improvement, the interest is deductible. However, because your combined mortgage and HELOC debt would be $775,000, assuming you purchased the home after December 15, 2017, your tax deduction would be limited to interest paid on the first $750,000 of debt.

Questions to discuss with your tax preparer

As you can see, the rules for deducting HELOC interest can get complicated. For that reason, it's a good idea to discuss these and other tax deductions with your accountant or tax advisor if you have one. Here are a few questions you'll want to ask at your meeting.

Will I get a bigger tax benefit on this year's return by itemizing or by claiming the standard deduction?
What receipts and other documentation do you need from me?
What are some other common home owner tax deductions and credits I can claim?
What records should I keep related to my HELOC spending?

Now that you know a little more about the tax deductibility of HELOCs, if you're ready to apply for a HELOC, we can help. Apply online or book an appointment with one of our lending experts to learn more.