Mortgage interest deduction limit on partially rented house

[belmen211]

Hello,

I bought a 3B Townhouse last year and had mortgage on it. Say I borrowed 1 million and paid 30k interest. I can only deduct around 20k interest from my income since any interest from 750k and above debt are not deductible. TurboTax knows this can handles this for me, when it asked me to input my form 1098.

Now, I have also rented out some rooms last year and got some rental income. Say the square footage percentage of rented area is 15%, then TurboTax puts 15% of the mortgage interest to rental expenses on Schedule E , and the rest of 85% goes to personal deductible on Schedule A. It seems that, in this way, TurboTax never asked me to input form 1098 when working on Schedule A and it does not place a cap on the personal mortgage interest deductible. That is to say, it's now deducting 30k*0.85=25.5k interest compared to 20k, which resulted bigger refund.

I am suspicious that this is too good to be true, but I cannot find a way to fix it, nor do I know what is the right way to calculate. Is there anyone having the same situation as I guess this should be a common scenario?

[mgarry3416]

To start I would question the amount you rent at 15%.  Do you allow your renter use of your kitchen, living room  and other areas of the house?  Does the renter have their own bathroom or do you share?  You said it was a 3 bedroom but not the number of baths.  Does the renter have their own entrance or you both use the same entrance.    You could be justified in allowing up to 40 to 50% rather than 15%

I would also question even reporting the additional income unless you are making a lot of profit from the rental.  If you are just covering your costs it really is not worth reporting.  I am assuming you have more than $150,000 AGI and are not entitled to the rent loss deduction.  

Now to answer you other question about mortgage interest deduction.  On schedule A it is capped as you stated.  On Schedule E for rentals there is no cap.  

[MarilynG1]

Yes, if you enter the full amount of your Mortgage Interest in the Rental Expenses section, TurboTax will calculate the Rental % and send the balance to Itemized Deductions on Schedule A.

This is the correct way to handle this, even though it may be beneficial to you as far as Mortgage Interest Limitations are concerned.

Here's more info on Mortgage Interest for Rental Property. 

@belmen211 

[belmen211]

Yeah, it isn't a big amount money and I was thinking about not reporting it. I am just trying to get familiar with this to prepare for the next year.

You are right that there is no cap on Sch E, and I am not able to get a rental loss deduction. The issue is, as long as I split my mortgage interest between Schedule E and A, the portion in Sch A has no cap, and TT said it already "handled it for me, don't enter anything else" and won't ask me to input principal amount or mortgage origination date etc to apply that cap. It just thinks it's ok to have to uncapped.

[belmen211]

> TurboTax will calculate the Rental % and send the balance to Itemized Deductions on Schedule A.

This works as expected. The problem I am having is that the balance send to Sch A does not seem to be correctly capped, and I haven't found a way to fix it.

If I input another mortgage interest in Deductions and credits section, it would create a duplicate (the portion created by rental property I entered in income section + the one I entered in deductions), and the result would be way off normal.

[PaulaM · Accepted solution]

Instead of allowing TurboTax to do the math for you, select 'No' and then enter the fractional components for the part of the home you rent out. You do the math in other words. Then enter the remaining fractional share on the Schedule A side. Do take into account the mortgage interest cap in both places. So 15% and 85% of your $20k in your case.

[Suresh8119]

I am having same situation. Turbotax automatically pull remaining balance on federal deduction without way to apply cap. Which is right method? Follow the turbo tax auto calculation or manually enter the number? if manual then it seems we can only apply this at rental part since there is no way to adjust later at deduction section.

[Suresh8119]

Hi MarilynG1,

Do we follow your suggestion or PaulM? With your suggestion, i will have more deduction whereas if i follow PaulM's suggestion then i will have less deduction.

[Suresh8119]

How did you fix it finally. I am having same situation

[belmen211]

I ended up not reporting that part of income because it's small. I think this is clearly a bug in turbotax but before they can fix it (probably not this year), I think the only solution is to calculate and report that 2 portions manually.