I want to readdress the use of the exact method to calculate the percentage of deductible home acquisition interest that @hbomb272 posted in Deductible Mortgage Interest Questions w/ Balances Above 750K, Exact Method because I believe I misunderstood how to go about applying the exact method of 1986 to the interest deduction limits that apply today.
Besides the change in the acquisition debt limit to its current $750K, the limit applicability changed from a per-residence basis to a per-taxpayer basis. This is what I failed to take into consideration and caused me to conclude that the exact method is not intended for taxpayers with a primary and second home. On a per-taxpayer basis, all acquisition debt on one or both qualified homes is taken into account in the exact method as in the simplified method. Not only can the exact method be applied when you have a primary and second home but also in cases when a home is sold and a new home is bought in the same year.
The exact method may or may not result in more deductible interest. This is because the debt limit is applied on a debt-by-debt basis in chronological order. If the first mortgage has less interest paid than the later mortgages, as in your case, the simplified method will probably be better.
You asked how you would calculate your 2024 taxes using the exact method, given the following inputs:
Primary Residence - $725k average balance, $4,155 average monthly interest x 12 = total interest of $49,860.
Second Home - $458k average balance, $1,004 average monthly interest x 12 = total interest of $12,048.
Exact Method: The second home mortgage is the first in chronological order and is taken into account first. Since the average acquisition balance of $458K is less than the $750K limit, all of the interest on this debt deductible.
The limit for the primary home mortgage is reduced by the amount used up on the second home = $750K minus $458K = $292K. Since the average acquisition balance for the primary home is greater than $292K, we calculate the amount deductible as $292K / $725K = 40.3 %. The amount of deductible interest on the primary home mortgage is $49,860 X 40.3% = $20,094.
Total interest deductible by the exact method = $12,048 + $20,094 = $32,142.
Simplified Method: $750K / $1.183M = 63.4% of $61,908 = $39,250.
So, in 2024, you will be better off using the simplified method in Pub 936 over the exact method. You can treat the second home mortgage as unsecured and take all of the $49,860 of the primary home interest as a deduction in 2024, but remember this election will apply going forward. Also consider, the $750K limit of the 2017 TCJA is scheduled to go back to the $1.1M after tax year 2025.
