Cash out refinance - applied to property taxes

[kjt96]

Hi,

I have a question in regards to refinancing. I refinanced in July 2021. Technically, I did not take out any cash as the cash was applied to put funds away for property taxes to be paid at the end of the year. Basically, I didn't have an escrow account before refinancing, so the additional principal added to the loan covered most of the true-up of my property taxes and I also had to write a check to cover the rest. Let's say I went from $100k to $106k in principal and had to write a check for $1k. All-in-all, it increased my principal about $6k and I never received any cash out of refinancing.  Am I able to still take a deduction on the full $106k amount or only the $100k? 

Thank you for your help.  

[RaifH]

No, you can't take the deduction on the full $106k. You can only take the deduction on the interest for $100k. If the cash out is not used to buy, build, or substantially improve the home, that portion of the interest is considered home equity debt and is not deductible. To enter this in TurboTax:

1. Answer No to Is this the original loan you used to buy your property?
2. Answer Yes to Is this loan a home equity line of credit or a refinance of a previous loan
3. Answer Yes to Did you take cash out when you got this loan? 
4. Answer No to Have you used the money from this loan exclusively on this home?
5. Answer Help me figure this out on Let's see how much interest you can deduct this year.
6. Enter the amount used to buy, build, or improve the home in the first field ($100k in this example) and the balance of the loan at the end of 2021 in the second field

The IRS allows your home equity debt to be paid off before the remainder of your deductible home mortgage. That means that all payments will reduce your home equity debt and will not reduce the principal or interest that you can deduct until the home equity debt is entirely paid off.

[kjt96]

Thank you very much as that helps a lot. To understand #6 completely, if the principal balance at the end of 2021 happens to be $100k (as well as the $100k in the first field), then I could take the full amount of interest deduction? 

Once again, thank you very much.

[RaifH]

Yes, that is correct. Once your loan balance is at or below the amount that you used to acquire, build, or improve the home the entire amount of interest is considered home acquisition debt and is eligible to be deducted. 

It can still be limited if your average mortgage balance exceeds $750,000 or $1 million for homes purchased before December 15, 2017.