Question

I want to do a cash-out refi on my primary home and use that cash for purchasing an investment property. Is the interest on cashout portion a rental expense (schedule E)

Forum|Forum|7 years ago
June 5, 2019
3 replies
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I want to do a cash-out refi on my primary home and use that cash for purchasing an investment property. Say, I currently owe 100k on my property and take 50k cashout. Is the interest on cashout portion (50k) considered a rental expense (on schedule E) ? What amount can I deduct for mortgage interest (on line10 of schedule A) ?

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Q

qunjie

Is this still the case now in 2019 under the new tax law? I cashed out 600K from my primary house to buy an investment property, can the interests for that 600K being reduced from the rental income from that investment property?

V

Employee

When you borrow funds, the funds and related interest are traced to activities that utilized the funds within 30 days of the borrowing. In your case, all your borrowings on the HELOC were used to acquire rental property. Therefore, the interest paid on the debt could be considered passive activity interest or alternatively you could treat it as home mortgage interest within the $100,000 limitation or a combination thereof.

If treated as passive activity debt, the interest is deductible against the rental income produced by the acquired property. The limitation of $100,000 on home equity debt does not apply, as the debt was not incurred for personal purposes.

Interest paid falls into six categories:

1. Investment interest

2. Trade or business interest

3. Passive activity interest

4. Home mortgage interest

5. Student loan interest

6. Personal interest

Passive activity interest is interest paid by the borrower to finance a passive activity. A passive activity is generally a rental activity such as rental real estate reported on Schedule E.

U

u0d4n7a0p

Hi,

If I pay off my rental property using the Home Equity portion of the cash-out refinance, can I still claim interest in Home Equity portion as an expense on rental income (the way I am claiming mortgage interest on rental as an expense on the rental income).

DaveF1006

Yes, according to this Turbo Tax link, you will be able to claim the interest paid on home equity loans as a rental property expense.

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J

johngoodwin1963

So, I refinanced my primary residence and got cash-out proceeds of $130,000. It seems clear I can deduct that interest on Schedule E if the $130,000 can clearly be traced to the purchase of an investment property. But what if the $130,000 was use to pay of the $130,000 debt balance on an investment property I already own? I have clear documentation that cash-out proceeds were wired into my bank account on one day then a wire transfer went out the very next day to fully pay off the investment property loan balance. Thanks in advance for any guidance.

U

u0d4n7a0p

Here is what I had found through research.

1. interest treatment of cash out portion of primary residence depends on how money is spent.

2. If you use the money to buy stocks, interest gets added to cost basis

3. if you buy car, it is your personal expense. You can't take it off from taxes in anyway (unless car is somehow part of your business so on and so forth)

4. if you buy an investment property, interest is offset against rental income.
5. if you pay off investment property, then interest is offset against rental income. For accounting purpose, you are paying off cash out portion first and then the primary residence mortgage. Assume, 800K was your original mortgage and you took 930K loan ( 130K cash out ), when you pay off, till the time your principal balance reaches 800K, you are paying off cash out. You have to split your mortgage interest into what it is for 800K and what it is for whatever is left from 130K every year. None of this calculation is complicated if you had done 8th grade math well.

Again, this is is my personal research. I claim no tax expertise. I didn't do cash out because I felt interest rates would go down and they did and I have come out ahead with lower rate on Primary with a conventional loan. But, I was confident enough to take cash out and do what I narrated above.