Question

Smith owns a personal residence with a fair market value of $195,000 and an outstanding frist mortgage of $157,500 which was used entirely to acquire the residence. This year, Smith gets a home equity loan of $10,000 to purchase a new fishing boat. How much of this mortgage debt is treated as qualified residence indebtness?

Please clearly explain.

Answer 1

Qualified principal residence indebtedness includes:

• Any debt incurred in acquiring, constructing, or substantially improving a principal residence that is secured by the principal residence
• Any debt secured by the principal residence resulting from the refinancing of debt incurred to acquire, construct, or substantially improve a principal residence, but only to the extent that the amount does not exceed the amount of the refinanced indebtedness

Accordingly in the given Question, $157,500 of the mortgage debt is treated as qualified residence indebtedness, as it is acquisition indebtedness.

And None of the interest on the $10,000 home equity loan is deductible, as the loan proceeds are used for personal purpose which is not related to acquiring, constructing, or substantially improving a principal residence that is secured by the principal residence.