Is the interest you pay on borrowed funds tax deductible? As with many tax-related questions, the answer is, “It depends.”
Different Types of Interest
Different categories of interest expenses have different deductibility rules.
- Personal interest, such as interest paid by consumers on personal credit cards, is generally not deductible.
- Student loan interest of up to $2,500 is potentially deductible (requirements apply).
- Qualified interest on home mortgages of up to $750,000. This applies to properties financed after December 15, 2017. Previously, the limit was $1 million. Interest paid on home equity loans and lines of credit are no longer tax deductible unless they are used to buy, build, or substantially improve the home that secures the loan.
- Investment interest is deductible to the extent of “net investment income,” meaning that if your interest expenses on investments exceeds the investment income, it is not all deductible for the present year. You can carry the nondeductible interest expense portion over to the following year, however!
- Trade or business interest is generally deductible in full. If you are self-employed, it is smart and useful to keep a separate credit card (and checking account, for that matter) for business purchases only, to help track allowable business interest expenses.
- Passive activity interest that is incurred in the course of business or income-producing activities in which you do not materially participate is generally deductible against passive activity income (but rules limit deductions for losses from passive activities).
Determining whether interest is deductible may require tracing the loan proceeds to their ultimate use. For example, if you take out a loan secured by business property but then use the entire proceeds to purchase a car for your personal use, the interest on the loan is considered nondeductible personal interest, even though business property is the security for the loan. The rules for matching debt with expenses can get more complicated if you commingle loan proceeds with other, non-loan assets, such as a personal savings account.
Losing Interest in this Topic?
Is this blog article too boring or painful to read? Do you find yourself yawning, scratching your head, or tearing your hair out in frustration over nit-picky tax rules and stickling examination of your financial details? At Baum CPA, our experts not only feel your pain, but we delight at the opportunity to take your pain away! We have mastered the tedious ins and outs of interest expense deductibility — plus all of the countless other line-item pigeonholes on your tax forms. If you want reliable, superior help with your personal 1040 and Schedule A, or your Schedule C, Schedule E, 1065 or 1120 (S or C) business filings — plus your state income tax forms — Baum CPA is your one-stop shop for tax pain relief. We are here to prepare and file your tax returns. It all starts with a single click here to book a free consultation!
This blog and its authors provide this content strictly for informational purposes. No content herein should be misconstrued as financial advice. Everyone’s specific circumstances vary — Always consult with a qualified, licensed financial advisor, legal counsel, and tax professional before venturing into any investment or business activities.