It's 2018. Will I Lose My Tax Deduction if I Refi?
If you're asking this question, I'm going to go out on a limb and say you're experiencing some anxiety right about now. But no matter how bad it gets, realize things could always be worse. You could be the Internal Revenue Service and tasked on a couple weeks' notice with retooling your shop to both comprehend and implement the Tax Cuts and Jobs Act. So whether you're a homeowner, a CPA, a Californian, an IRS employee or a blue state Democrat, let's wash down a couple of Xanax with a strong martini and focus only on what happens if you attempt to refinance a mortgage that was originated before December 15, 2017. Will you lose your mortgage interest deduction? Will you be subject to new itemization limits? Will you make America great again?
For now, we're going to focus only on one-unit properties, AKA single-family residences (SFRs). If you are attempting to refinance any conforming or FHA loan, the new tax code does not come into play. Why? Because your loan amount cannot, by definition, exceed the 1-unit maximum of $679,650. And since the allowable limits on mortgage interest deductibility are now at $750K, down from $1MM, you are still below the threshold.
But let's instead say you have a loan balance of $1,020,050, for example, and your loan was originated in 2014. Up to this point, your tax professional (or software) has likely been allowing you to deduct the interest on up to the first $1MM of this debt. I'm not going to go into the formula or method we'd use to determine the total amount of interest that would be itemized, but get in touch if you'd like to discuss that with me at any point. Knowing that the deductible max has been reduced from $1MM to $750K, you are concerned that if you refinance one of two things might happen:
- If I refinance will I lose my mortgage interest deduction altogether?
- If I refinance, will my mortgage interest deduction be reduced from $1MM to $750K?
Which is correct? Well, we need more information. But we know for certain that #1 is not a possible outcome. Simply by refinancing any loan originated before the new tax code became law does not put you at risk for losing your mortgage interest deduction (MID) in entirety. Whew. However, the amount of MID will now depend on how you transact the refinance.
Let's go back to our example above. We'll assume our borrower either wants to take advantage of rates that are still historically excellent, or maybe convert an ARM to a fixed rate loan. But perhaps more than even rate benefit or peace of mind, what our borrower in question definitely DOES NOT want to do is lose tax benefit needlessly. Here's the important point. When refinancing, so long as this borrower does not increase the loan balance ($1,020,050 in our example), he/she will keep an MID limit of $1 million dollars. It will be grandfathered in at that level. But caveat qui mutuum accipit --- my interpretation of the new code says that if we even so much as include the closing costs in the new loan balance ("rolling them in"), we could be subject to an MID revision down to $750K. Simply, the new law says that the loan amount cannot increase. Over the coming weeks and months we may get more clarity from the IRS, but for now, I think it's a safe assumption that the loan amount should not exceed the payoff amount that our escrow agent will put on the settlement statement.
Going forward, cash out refinances, purchase money loans and refinances of loans originated after 12/15/2017 will all be subject to the new limitations for the mortgage interest deduction. This is a sweeping change, for sure, and navigating it is not quite as simple, say, as tweeting random thoughts at 4am. If you have questions about a loan you'd like to refinance in California, and which may be subject to provisions of the new tax code, connect with me at the contacts below.
Robert J. Spinosa
Vice President of Mortgage Lending
Marin Office: 324 Sir Francis Drake Blvd., San Anselmo, CA 94960
Berkeley Office: 1400 Shattuck Ave., Suite 1, Berkeley, CA 94709
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