Secure a loan from primary to pay off rental mortgage. can interest from the primary still be deducted as rental expense?

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June 6, 2019
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secure a mortgage to purchase a rental property. later secure a mortgage from primary residence to pay off the rental mortgage since the interest rate on primary is lower. Can interest from the primary still be deducted as rental expense?

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RichardK

Employee

Yes, the interest allocated to the rental portion of the loan can be deducted from rental income. Click here to see IRS publication 535, section 4 Interest, which states "In general, you allocate interest on a loan the same way you allocate the loan proceeds. You allocate loan proceeds by tracing disbursements to specific use." This is referred to as the Interest Tracing Rules.

HL1Author

Is there an option to claim the mortgage interest secured by primary home to pay off rental on schedule A? (income is too high to cover rental loss) and switch back to rental expenses next year?

Carl11_2

Employee

Is there an option to claim the mortgage interest secured by primary home to pay off rental on schedule A?

No. Because you did not use the proceeds to "buy, build or improve your main home" which is the one used to secure the loan.

(income is too high to cover rental loss) and switch back to rental expenses next year?

For starters, you can't arbitrarily switch back and forth. If you claim it as a SCH A itemized deduction, then it may not help anything if the total of your SCH A deductions does not exceed your standard deduction. Additionally, some of those deductions are limited by SALT anyway.

For rental property, it is most common for rental property to operate at a loss each and every year, on paper at tax filing time. Once your rental expenses gets your taxable rental income to zero, any excess loss is just carried forward to the next year. Then the next year you can use/claim the loss provided you have the rental income to deduct it from. (more than likely, you won't)

Rental losses just continue to carry forward and grow. You can't realize those losses until the tax year you sell the property. When you sell, all of your carry forward suspended losses are released, and you can claim them against any gain realized on the sale, as well as any other ordinary income you may have.

Now there is a provision in the Tax Cuts & Jobs Act of 2018 that allows you to deduct up to a maximum of $25K of excess passive losses against other ordinary income. So it's perfectly possible for one to not have any carry overs. But in your case, if your income is to high that won't be allowed. It just gets carried forward.