Mortgage Interest Deduction

The mortgage interest deduction is the itemized deduction for what the tax code calls qualified residence interest. Internal Revenue Code section 163(h)(3) defines it as interest paid on acquisition indebtedness with respect to a qualified residence, and acquisition indebtedness has two elements that must both be satisfied: the debt was "incurred in acquiring, constructing, or substantially improving" the residence, and it is "secured by such residence".

Most explanations give the second test and skip the first, which is where people go wrong in both directions. An unsecured personal loan used to add a bedroom produces no deduction, because it is not secured by the house. A home equity line secured by the house but spent on a car produces no deduction either, because the money did not go into the property. The IRS uses the plainer name "home mortgage interest" in Publication 936, and the two names describe the same deduction.

A taxpayer may treat two homes as qualified residences: the principal residence, and one other residence the taxpayer selects for the year and uses as a residence. Section 163(h)(4)(A)(iii) adds a useful concession for a vacation property, which is that a unit never rented during the year can be treated as a residence without meeting the usual personal-use day count.

Refinancing is traced, not reset. The flush text of section 163(h)(3)(B)(i) keeps acquisition character on a refinancing "only to the extent the amount of the indebtedness resulting from such refinancing does not exceed the amount of the refinanced indebtedness". So a straight rate-and-term refinance carries the old character forward, and cash taken out above the old balance is not acquisition debt unless that cash is itself spent on substantially improving the home.

Home equity indebtedness as a category is switched off. Section 163(h)(3)(F)(i)(I) disapplies the home equity limb permanently, so interest is not deductible merely because a loan is secured by home equity. The frequently repeated line that home equity interest "came back" is a misreading of a different point: a home equity loan or line whose proceeds buy, build or substantially improve the residence is acquisition indebtedness by definition, and always was. The label on the product is irrelevant; the use of the money is not.

Three grandfathering layers survive, in descending age. Debt incurred on or before October 13, 1987 is treated as acquisition indebtedness with no dollar limit at all, and it reduces the $1,000,000 limit for anything newer. Debt incurred on or before December 15, 2017 keeps the $1,000,000 / $500,000 limit and reduces the $750,000 / $375,000 limit dollar for dollar for later borrowing. And a taxpayer who signed a written binding contract before December 15, 2017 to close on a principal residence before January 1, 2018, and bought it before April 1, 2018, is treated as if the older date were April 1, 2018.

Mortgage insurance premiums are the item that changed most recently, and the codified text is misleading about when. Section 163(h)(3)(E) treats premiums paid for qualified mortgage insurance in connection with acquisition indebtedness as qualified residence interest, subject to a phaseout, and clause (iv) had terminated that treatment for amounts paid after 2021. Subclause (F)(i)(III) now switches that termination off. But the subclause sits inside a paragraph that opens "In the case of taxable years beginning after December 31, 2017", which reads as though the deduction had been available all along. It was not. The amendment that added it applies, by its own effective-date provision, to taxable years beginning after December 31, 2025, so guidance written between 2022 and 2025 saying these premiums are not deductible was correct for those years and is now out of date.

The lender reports the year's interest on Form 1098, the taxpayer works out how much of the underlying debt is acquisition indebtedness within the applicable limit, and the deductible share of the interest is carried to Schedule A. Where the debt exceeds the limit, or part of it is not acquisition debt, the interest is prorated.

A hypothetical showing the tracing rule. Nadia has $300,000 left on the mortgage she used to buy her house. She refinances into a $360,000 loan and takes the $60,000 difference in cash to pay off a car loan and some credit cards. Only the $300,000 keeps acquisition character, so the deductible fraction of her interest is 300,000 divided by 360,000, or about 83.3%. If she pays $18,000 of interest that year, $15,000 is deductible and $3,000 is not. Had she instead spent the $60,000 on a new roof and a kitchen, the whole loan would have been acquisition debt and all $18,000 would have qualified.

A second hypothetical, on the mortgage insurance phaseout. The deduction is reduced by 10% for each $1,000, or fraction of $1,000, that adjusted gross income exceeds $100,000 ($500 and $50,000 for a married person filing separately). Marcus has adjusted gross income of $104,300, which is $4,300 over. Rounding a fraction up gives five increments, so 50% of the premium is disallowed: $2,000 of premiums becomes a $1,000 deduction. At $110,000 of adjusted gross income the deduction is gone entirely.

Pros

• Often the single largest itemized deduction for a recent buyer, because early payments are mostly interest.
• The limits on acquisition debt are fixed statutory amounts, so they do not shrink quietly the way an inflation-indexed threshold can.
• Older debt is genuinely grandfathered, including pre-1987 borrowing with no dollar cap at all.
• A home equity loan or line does qualify when the proceeds actually improve the home.
• Mortgage insurance premiums are deductible again from 2026, which matters most to lower-income buyers who put less down.

Cons

• Worth nothing unless total itemized deductions exceed the standard deduction, which for most households they do not.
• The value is your marginal rate times the interest, not the interest, so the popular framing of the deduction as a reason to carry a mortgage overstates it substantially.
• Records matter. Proving what a cash-out refinance was spent on is the taxpayer's problem years later.
• The $750,000 and $1,000,000 limits are not indexed, so they cover less house every year.
• Interest on a second home counts against the same limits, not a fresh set.
• The mortgage insurance phaseout is steep, running out entirely over $10,000 of income.