Tax Break for Interest on Personal Loan Used for Stock Purchase

[user17525279893]

Hello Turbo Tax Experts, 

I read online that there are tax breaks for personal loans used to purchase stocks but they are very limited in scope. Please help me better understand what the scope is. 

1) Is the tax break restricted to just stocks or do ETFs count for the tax break too? 

2) Are there specific types of stocks if purchased using the loan, that are excluded from the tax break? 
3) So if a person takes out a person loan at interest rate 7% to buy stock, would the tax break be whatever they pay of that 7%? 

[Jennifer_A]

Yes, there are tax deductions for investment income and expenses.  Note that these deductions are claimed on the Schedule A of Form 1040.  So if you don't usually itemize your deductions and take the standard deduction, this may not impact you.  Publication 550 defines Investment Income as "interest, dividends, capital gains, and other types of distributions including mutual fund distributions."  The deductible expense would be the interest paid on the loan that was used to purchase the investments.  Note that "you cannot deduct interest and carrying charges allocable to personal property that is part of a straddle."  The interest expense deduction is limited to your net investment income.  However, the rest will carry over into the following year.

[Andrew_W · Accepted solution]

The Investment Interest Expense Deduction is what you appear to be describing. Generally, interest incurred on loans used to acquire property held for investment can qualify for this deduction. Common types of investment property include:

• Stocks: Both individual stocks and mutual funds or ETFs that are held in a taxable brokerage account.

• Taxable Bonds: Interest on loans to purchase taxable bonds.

• Other Income-Producing Property: This can include real estate held for investment (not personal use or rental property that's considered a "passive activity") or other assets that produce investment income like interest, dividends, annuities, or royalties.

This deduction is limited to your Net Investment Income, which includes taxable interest, ordinary dividends, annuities, royalties, and net short-term capital gains. 

As an example, let's say you pay $700 in investment interest expense in a year.

• If your total investment income (interest, ordinary dividends, short-term gains) for that year is $500, you can only deduct $500 of the interest. The remaining $200 of disallowed interest can be carried forward to future years.

• If your investment income was $1,000 instead, you could deduct the full $700.

Further, this deduction can only be taken if you itemize your personal deductions. It is a deduction that appears on Schedule A, Itemized Deductions. If you otherwise would take the standard deduction, you may not see any tax benefit.

These articles have additional useful information on this topic: 
What Are Deductible Investment Interest Expenses? 
Standard Deduction vs. Itemized Deductions: Which Is Better?