You don't have a choice here. You are required by federal law to depreciate rental property. The fact it's paid off doesn't matter.
Also if I take HELOC from the current house to pay down 20% on new house, can I take mortgage interest deduction on taxes?
Not on the SCH E you can't. It could be a SCH A deduction, but you don't even get that since it's used as a cash down payment. In order for the HELOC interest to be deductible on SCH E, you have to use the money to "buy, pay for or improve the same property, or a like kind property". Since the new home to be purchased will be your primary residence and not rental property, it's not "like kind" property. So the interest on that HELOC will not be deductible at all.
