Discussion:Mortgage interest tracing - new clients
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Discussion Forum Index --> Tax Questions --> Mortgage interest tracing - new clients
| 13 December 2007 | |
| new client comes to you with several 1098s. has two homes. has refinanced mortgages several times over the years but has no idea what the original acquisition indebtedness was on either primary at time of refi. co-mingled funds to use for both premises for various stages of "improvements" plus used money (admittedly) for other purposes. what do you do? do you take the 1098s at face value? was wondering how other practictioners deal with the new and existing clients.......thanks for your input! | |
| 13 December 2007 | |
| I know what you mean.... It is usually not possible to be accurate. Nevertheless, I try to get at least well thought out estimates of the amounts, timing, and uses of non-acquisition debt, refi debt, and make sure the client can produce invoices for any improvements claimed. Then I write a memo to the tax file to document. For existing clients, am trying to get all relevant clients' prior representations on a spreadsheet, and will update meticulously going forward. -Bob | |
| 13 December 2007 | |
| Suggestion: I go overboard, find and document mortgage transfers, via mortgage company (can be hard to do), document loan balances and 'cash outs', ask client how much was for improvements, adjust mortgage deduction accordingly. I found that client usuually doesn't know what, when and where. After I document I have the client sign work papers to CYA. Due diligence
Good Luck | |
| 13 December 2007 | |
| thanks, good advice, but what would you do for new client with "no idea"??? | |
| December 13, 2007 | |
| At a minimum, I expect you will somehow need to find out the total of the acquisition indebtedness balances and the total of the home equity debt balances to see if taxpayer satisfies the $1MM acquisition debt and $100k home equity debt limitations. If you have only limited facts, like original purchase dates and related loan amounts, dates of refi's, how much of various cash outs were pumped back into the properties, you might be able to use some type of quadratic equation to determine if client is within the limitations. Good luck! | |
| 13 December 2007 | |
| Tell them to go to H&R where they have a don't ask, don't tell policy. | |
| 13 December 2007 | |
| Since there are numerous 1098s - I would have client contact each of the companies that issued the loans - and request a copy of the loan applications. That will show the dates applied, purposes of loans, copies of checks to 3rd party payees (if any)
That way - once you have it (as much as you'll get) - you could make some sense out of the chronology of events, and document it for future reference. Otherwise - it will be a continuous guessing game as to "how much" interest is really deductible. | |
| 13 December 2007 | |
| thanks, some good ideas (especially the H&R one), any other suggestions also appreciated.. | |
| 14 December 2007 | |
| I think they also need to be able to provide receipts showing the improvements they made to the residences. That way, if you have the first loan application and whatever receipts they can provide for improvements, you should be able to back in to the original home acquisition indebtedness + 100K. IMO, this can be a major issue with new clients. | |
Death&Taxes (talk|edits) said: | 14 December 2007 |
| Assume your new client comes in on March 10th. Seems to me that the first place to look is the name of the prior preparer. If local, does that person have a good reputation for thoroughness, or was the return done by Block, Hewitt, someone with a seasonal practice or via turbo tax. If there is little trust in the preparer, I might take the steps outlined above.
If there is some trust, check the balances on the equity loans, and check the date of the first mortgage to see if it was a re-fi, then explain the tax consequences to the client and ask him to outline the history of debt. But I would add that if I ascertained that debt does not exceed acquisition debt by 100K, I might look at Form 6251 and see the margin for error (in the Northeast there is usually little room). I am trying to be practical given the time pressure of tax season. From my observation, the way to begin this process is that when a 1098 for an equity line is given, or one for a second mortgage, say something like "I see you got smart and are using an equity line instead of credit cards or auto loans." Or if you see college age kids, tap dance into the subject of paying for college. You'd be surprised the number of times they nod and agree, and then you hit them with the blow below the belt. | |
| 15 December 2007 | |
| David, You sound like you work for the IRS. My preference is to explain the rules first, before asking the knock-out question. | |
| 15 December 2007 | |
| Lisaig, What procedure have you been using for the past 10 years? | |
| 16 December 2007 | |
| Lisasig, it is indeed possible to examine the documents filed with the county recorder to determine the portion of the existing debt that is home acquisition indebtedness. This information can be extracted using Westlaw or a similar database. | |
Death&Taxes (talk|edits) said: | 16 December 2007 |
| Some people are lucky; they have never had a client lie to them. | |
| 17 December 2007 | |
| Great discussion, good points. I have an additional question on this issue. For a refinance on main mortgage where client draws cash and indicates he used those proceeds for a substantial improvement do you exclude that draw from your home equity total? Say main mortage original is $250000 he refinances for $275000 and says he has $25000 in a new roof. His home equity nonqualified borrowing is already at $100000, do you consider his home acquisition/improvement debt at $275000 (all qualified) and limit the home equity to the $100000? The IRS descriptions of what happens at a refinance are a little cryptic if there is cash out used for improvement. thanks for help. | |
Death&Taxes (talk|edits) said: | 17 December 2007 |
| Can you clarify a little? Do you mean his original mortgage was 250K and is now lower, or that the balance is 250K. Assuming 250K is the balance on the original mortgage, his acquistion debt would now be 275,000.
If the original mortgage was 250K and it was 225,000 when he refinanced, his new Acquisition debt would be 250K but the additional 25K would not be deductible if his equity line stood at 100K [in real life, this would be impossible since the lender would force him to pay that line off.) If there was no HELOC, then the 25K would go against the 100K limit. | |
| 17 December 2007 | |
| I meant that balance of his mortgage before refinance is 250K. My real question is what falls in the "acquisition indebtedness" definition. On refinance debt is acquisition debt to extent it does not exceed the principal amount of acquisition debt immediately before refinance. But acquisition debt also includes debt incurred in "substantially improving" a qualified residence. What if he takes cash out at refinance (so new balance is greater than acquisition balance right before refinance) but he used the cash on a home improvement? Seems like the cash out meets the definition of acquisition debt so he could deduct entire mortgage interest on refinance loan even if home equity LOC is at 100K? | |
| 18 December 2007 | |
| Not specifically addressing the issue of whether a new roof is home acq indebtedness or not, you need to be careful with the dates. Loan draw and payment must be within certain prescribed time limits. So refi in spring, draw of $25k for improvement stuffed into checking account and then improvement done in fall may not qualify (almost certainly will not, but I'm too lazy to look up the window for the tracing rules). | |
Death&Taxes (talk|edits) said: | 18 December 2007 |
| Good point, JD. | |
| 18 December 2007 | |
| JD I agree, my recollection is that for tracing purposes debt funds have to be used within 30 days. Would you agree that if client can trace funds and the new expenditure meets "subtantial improvement" definition that a cash out refinance can still be considered 100% acqusition indebtedness?
Along the same lines, lets say a client has $150K HELOC. He spends $90K on a "substantial improvement", spends $60K on college tuition. Would you consider the $90K as acquisition indebtedness in addition to first mortgage (total under $1 million)and take the $60K interest as the only interest subject to $100K limit? My point is that can we look to the underlying use of the debt on the HELOC and not just subject all the draws to the $100K limit because it is a HE loan? Thanks for input. | |
Death&Taxes (talk|edits) said: | 18 December 2007 |
| I think your 90/60 example to be a very apt illustration of how to 'bifurcate' the HELOC into two segments, the first deductible as acquisition indebtedness, and the second a home equity interest (and not deductible for AMT).
If only life were that simple! Where we run into problems comes when payments are made. Lines of credits do not remain static and perhaps after paying down the line to 135K, the client draws out 12K for some other purpose [maybe even to pay for expenses on a rental property] or worse, purposes: 7K toward the rental, 3K towards new doors on the residence, and 2K to pay a medical bill. | |
