Taxation & Estate Planning

IRS ALLOWS TAXPAYER TO COMBINE ACQUISITION INDEBTEDNESS AND HOME EQUITY INDEBTEDNESS

By Charles Rubin

The Internal Revenue Code does not allow deductions for ?personal interest.? Nonetheless, qualified residence interest, which includes interest on acquisition indebtedness and home equity indebtedness on a qualified residence, is deductible. Generally, acquisition indebtedness is deductible only on the first $1 million of acquisition indebtedness. Home equity indebtedness is generally deductible on $100,000 of home equity indebtedness.

What happens if a taxpayer borrows $1.1 million to buy a qualified residence? Can the taxpayer get interest deductions on $1 million of acquisition indebtedness, AND interest deductions on another $100,000 of the acquisition debt? Or is the full $1.1 million clearly acquisition indebtedness only, thus qualifying only $1 million of the debt for deductible interest?

In Pau,  TC Memo 1997-43  and Catalano,  TC Memo 2000-82 , the Tax Court limited interest deductions in this context to the acquisition indebtedness amount only of $1 million. Interestingly, the IRS has now reversed course and in a Chief Counsel Advice is now allowing interest deductions on $1.1 million - $1 million for acquisition indebtedness and another $100,000 as home equity indebtedness. Its a rare day that the IRS goes against court precedent to provide a favorable interpretation for taxpayers, instead of the IRS.

Chief Counsel Advice 200940030

Full post as published by Rubin on Tax on November 22, 2009 (boomark / email).