Yes, unfortunately, you must report both mortgages. If you refinance a post-2017 $750K mortgage in the middle of the year and receive two 1098s (one from each lender) it is treated as a single mortgage over the months the mortgages are held. The refinancing mortgage assumes the debt of the refinanced loan. The interest deduction is not slashed by 50% for that year. This is not the case when you sell one home and buy another. In that case, the old loan is paid off and not assumed by the new loan.
The only way to execute a sale/purchase so that you only have one mortgage in each year is to sell the old house in the current year, move to grandma’s house into the new year and then buy a new home.
The fairest approach, in my opinion, is to simply treat sale/purchase as a refinance which in effect combines the monthly balances of the two loans, summing the monthly totals, and dividing by the number of months the two loans span (usually 12).
Do you mean by “fair’ approach it would be fairer to compute the deductible interest for each loan separately by first calculating the average balance by summing the monthly balances and dividing the total by the applicable number of months and then subjecting this average to the limit for that loan to get the percentage of deductible interest for each loan? Then add the deductible interest from each to get the total deductible interest. This does seem fairer but it allows taxpayers to exceed the overall mortgage deduction limits set out in pub 936. So the answer to your question is no, the IRS does not allow this approach. Although your method of computing the average balance is allowed and, I believe, results in a slightly higher deduction.
