How to enter a different average mortgage balance than what TurboTax calculates?

[hyungdo]

We moved this year from one home to another. The first home has an active mortgage originated prior to 2017 and hasn't yet been sold. The new home is financed with a new (much larger) mortgage starting September 2021. It seems that TT uses the Average of first and last balance method to calculate the Average Mortgage Balance. This results in a big reduction of my deductions as if I am being penalized for having taken out a new mortgage.

However, given that my new mortgage is only part-year, the Interest paid divided by Interest rate method is more appropriate, which would appropriately calculate my deductions as the law intends. I have gone through this on the Mortgage Interest Deduction Worksheet in Pub 936.

My question is how can I override TT to do this calculation correctly? None of the TT steps/questions seem to allow this. I can't just omit a 1098 form and "decide not to take a deduction" right? I know there are lots of posts about having two mortgages from different limitation timeframes, but none of the answers seem to address this particular question of how to deal with it in the TT? Please correct me if I am wrong! Thank you!

[RaifH · Accepted solution]

No, you cannot omit the second Form 1098. If you want to take the mortgage interest deduction as an itemized deduction, you must include all the mortgage interest you paid. 

You can manually calculate the Outstanding Mortgage Balance to report for your second 1098 on the new home using the interest rate method by dividing the interest paid reported in box 1 by the lowest interest rate you paid on this home during 2021. You can use this calculated amount as the Box 2 Outstanding Mortgage Balance rather than what is reported on Form 1098. 

If the system asks for the balance of your loan on January 1, 2022, you will want to report the same number you calculated since the system will take the average of these two numbers as your Outstanding Mortgage Balance. 

TurboTax is also working on finalizing the worksheet that would calculate the balance using the average mortgage balance. Once corrected, it should give an answer similar to the interest rate method, because the months you did not have the mortgage would count as $0. You can sign up for notifications when it will be ready here.

[hyungdo]

Thank you so much @RaifH. This calculates the deductible amount as intended in the Mortgage interest deduction worksheet!

From the perspective of the intent of the IRS law though, I am puzzled as to why adding a mortgage would result in a reduction of the total deductible amount. I understand why the worksheet calculates it that way, but I would imagine that increasing mortgage interest paid would eventually result in an increase of the deductible amount or no change if you hit the limit...

[RaifH]

When the average balance is calculated correctly and you are paying the same interest rate on all your loans, the mortgage interest limit will not reduce the mortgage deduction, but it would keep it at the same amount as if your mortgage was for $750,000. 

On the other hand, if you have a high-interest rate mortgage that you refinance out of to a lower rate and the total balances add up to over $750,000, you may see a lower overall mortgage deduction than you would have prior to adding the new, lower-rate mortgage. As for why that is or what the intent of it is, I'm not really qualified to speak on that. 

With that in mind, I should correct myself from earlier and say that you can actually exclude your home mortgage interest from being deductible and you would not have to include it. This is normally only done to use the interest as an expense somewhere else and it would require IRS permission to make the mortgage interest an allowable deduction again in future years. 

[hyungdo]

Thank you so much for sharing your expertise! In my case, these are two separate loans for two separate homes taken out 6 years apart with two separate limits. The first loan is between 750,000 and 1,000,000. This year, 2/3 of my total interest is under the 1,000,000 limit and 1/3 of my total interest under the 750,000 limit. The way IRS calculates it, less of my first mortgage under the 1,000,000 limit becomes eligible for deduction when the second mortgage is added than if it weren't added. That's because the proportion of what is under the 1,000,000 decreases when adding the second mortgage. I don't think this was intended by IRS in this very particular situation.

It sounds like it is possible to choose the second mortgage not as not-secured and not deduct, but I would need to declare the mortgage secured in the future by obtaining permission from the IRS. Do you know how I can do that in the future? And is there a risk of not being allowed to obtain this permission? Thank you.

[RobertB4444]

It is always possible to choose a mortgage as unsecured - you just decide it and it's done.  Getting it reinstated is the hard part.

A request for permission from the IRS is submitted in writing to the local office where your tax return is submitted.   There is always a risk that they will reject it (although not a big risk in this case).   These days the bigger risk is that they won't process it for an extended period.

[taxissues]

@RaifH 

I think you can accomplish the same thing by overriding the average values for loans in the Deductible Home Mortgage Interest Worksheet. Is that a valid method vs altering the 1098 values? There is nowhere to indicate that I used interest rate method, and there is no supporting info possible on the override of the average loan principal.

There is also a serious bug in the desktop Premier edition that comes up with the wrong deduction. I had a loan from before 2017 that I refinanced twice without cashing out. This means it should be home aquisition loan from before 2017 -- but if I tick the box "yes" on line D on Home Int Wkst (Debt originated before 12/15/17)  [by the way, there is are no intructions for line D in turbotax] then the Deductible Home Mortgage interest worksheet removes all loan information except for "Enter Amount of debt used to buy, build..." line which doesn't propagate anywhere, and the value in line 2 of that worksheet (Part 1 qualified loan limit) is not filled in.  If I overide the average balance as I described above, then that shows up on line 2. But again, it's a bug that this loan doesn't show up otherwise. I don't think the loan can just be ignored because otherwise the total loan amount, including a different loan I didn't discuss here, is over the limit. [As a side note -- the way this worksheet works, it doesn't matter if the loan from before 2017 was under $1MM and interest fully deductible, it winds up applying a $750k limit to the sum of both average principals anyway, no different that if it had originated after the lower limit was imposed.]

[LeonardS]

Form 1098 is an informational form used to prepare your tax return.  The IRS allows you to use the Average Mortgage Balance in determining your mortgage interest deductibility.  Enter only one 1098 using your average mortgage balance and the total of any deductible items on both 1098 forms.

This link Publication 936 (2021), Home Mortgage Interest Deduction has information you may find helpful

@taxissues

[taxissues]

@LeonardS 

Not sure this actually addresses the issue. I have two loans, one originated before 2017, one after. Two 1098's, one for each loan. Even if I change box 2, the average principal balance, and do not override anything the bug remains - the software does not consider the pre-2017 loan if the line D originate before 2017 box is checked (in the step-by-step it's a question that you answer "yes" to).

I don't know how to report a bug.  I don't have much time for this, I've already spent days sorting it out. But there is a bug. The software just doesn't handle selling a house with a pre-2017 originated loan and buying a new home with a loan above the 750k limit. 

[RaifH]

That issue seems to be corrected with the latest version of TurboTax Desktop. You may want to verify that you are using the most recent version, I think I noticed that it was corrected yesterday or the day before on mine. If you are using the latest version, try deleting out the 1098s and re-entering a fresh one to see if it calculates correctly.

Prior to it being corrected, I had been advising people to enter the mortgage origination date as the original purchase date on homes bought before December 15, 2017 and then answer No to that question to apply the correct mortgage limit. This would only cause an issue if they have points to amortize over the life of a refinanced loan. 

In regards to your other question, the only thing reported to the IRS is your deductible home mortgage interest. Whatever you entered as your outstanding mortgage principal or which of the IRS-approved methods you used to determine your balance may be happening in the background on some of the worksheets. The important thing is that you can provide justification for the numbers you report. 

@taxissues

[abackholm]

I also have an issue with average mortgage balance calculations (TurboTax Home and Business 2021, desktop). I have a case where, at the very end of the year, I both refinanced my primary home loan (with a cash-out) and took a new mortgage for a second home. Deductible Home Mortgage Interest Worksheet calculates the Average Balance for each loan as the difference between beginning balance (either beginning of the year or origination date) and the ending balance. This is not correct as the average should be average over the year, not over the time of the loan. For example, the loan that originated in December should have average mortgage balance only 1/12th of the loan amount.

The excessive average loan amounts trigger the $750,000 threshold and mess up the return, and I can't find a way to manually enter the correct mortgage averages. Any help?

[RaifH]

TurboTax's method of using the first and last month's balance to determine the average is one that is accepted by the IRS, but in your case, certainly not the best option if you just bought a second home in December. 

In your case, you can use the average of monthly statements for your second home. The easiest way to calculate this is to take the outstanding mortgage principal in Box 2, multiply that by the number of months you had the loan, then divide by 12. So, for your second home, you will essentially be reporting 1/12 of the amount of mortgage principal if you closed in December. If you choose to do this, you have to make some modifications to override the TurboTax calculation for the second home:

• Report the Outstanding Mortgage Principal in Box 2 as the amount you calculate using the average of monthly statements.
• Report the calculated balance again when TurboTax asks the balance on January 1, 2022.  

For the first home, I would report both 1098s as they appear. Make sure to answer No to Let's see if this is the most recent form for this loan for the original loan. That way, the loan balance from that one will not be added to the calculation for limiting your mortgage interest. 

@abackholm

[akenis]

The method you suggested says:

Statements provided by your lender.

If you receive monthly statements showing the closing balance or the average balance for the month, you can use either to figure your average balance for the year. You can treat the balance as zero for any month the mortgage wasn't secured by your qualified home. 

For each mortgage, figure your average balance by adding your monthly closing or average balances and dividing that total by the number of months the home secured by that mortgage was a qualified home during the year. 

If your lender can give you your average balance for the year, you can use that amount.

So divide by 1 since Loan was only secured 1 month.

[akenclark]

I have a number I want to use for the average balance but do not see how to enter it. Line G-7 of the Home Interest Worksheet (labeled Average Loan Balance) will not accept typed input nor does it display a computed number

[Marka81]

@RaifH  I have a similar issue. Can you help.  Here is the situation:

Purchased a home for $470k in 2016. Balance as of 12/31/2022 per 1098T- 309K. 

Purchased a second home for $903k in 6/29/2022. Balance as of 12/31/2022 per 1098T-896K

When I enter 1098Ts then I need to limit the interest deduction because since 6/29/2022, I have been over 750K cap. 

The system calculates the average of both mortgages by adding the beginning and ending balances of both mortgages, then it divides it by 2 , and then it applies the limitation percentage which results in me being able to deduct only about 60% of interest from both homes. That makes no sense. I was only over the limit since 6/29/2022, so this makes no sense. 

Can I calculate the average balance of the 903K loan by adding 7 months mortgage balances then dividing by 12? It would be around $525K. And if I enter that, then the system allows about 90% of interest deductions for both loans. Does that seem accurate?