IRS Clarifies Who Gets Mortgage Interest Deductions in Three Nettlesome Scenarios.
(Parker Tax Publishing January 7, 2015)

The IRS's Office of Chief Counsel (IRS) clarified which taxpayer is entitled to claim mortgage interest deductions in three situations in which taxpayers who are potentially entitled to a deduction with respect to the same mortgage file separate tax returns. CCA 201451027.

In all three situations, the IRS makes a sometimes unstated assumption that the taxpayers meet the requirements to deduct mortgage interest under Code Sec. 163 that are not discussed in the facts of the situation.

Situation 1 - Co-Mortgagor Spouse Dies

Facts: Taxpayers are a married couple and are jointly and severally liable on a mortgage, but one spouse dies before the end of the tax year and the bank issues a Form 1098 under the deceased spouse's social security number. The surviving spouse files a separate return. Payment may be made from a joint account or from separate funds of either taxpayer.

The IRS advised that, in the year of death, if the surviving spouse files a separate return, the decedent's return should include income and deductions applicable up to the time of death. The amount of interest deductible on the decedents return is dependent upon whether payment was from joint or separate accounts. If the decedent paid interest from a joint account before death, there is a presumption the payment was made equally by each owner and consequently the decedent's return should reflect one-half of the interest paid from the joint account before the time of death.

The IRS further advised that in the years following the year of death, the surviving spouse is entitled to the deduction for interest since the surviving spouse is liable on the note, assuming the surviving spouse makes the interest payments and all other requirements are met.

Situation 2 - Unmarried Co-Mortgagors

Facts: Taxpayers are an unmarried couple and are jointly and severally liable on a mortgage, and the bank either issues a Form 1098 under only one social security number, or both. One or both taxpayers claims the mortgage interest deduction on their individual returns. Payment may be made from a joint account or from separate funds of either taxpayer.

The IRS advised that both taxpayers are entitled to claim the mortgage interest deduction to the extent of the mortgage interest paid by either taxpayer, since both are liable on the mortgage.

As in Situation 1, the IRS advised that the amount of interest each taxpayer can deduct is depends upon whether payment was from joint or separate accounts. If the mortgage interest is paid from the taxpayers individual accounts, each may claim the mortgage interest deduction paid from each separate account. In the event the interest was paid out of a joint account in which each taxpayer has an equal interest, it would be presumed that each has paid an equal amount. However, clear evidence that the funds used were provided by one taxpayer or the other can overcome the presumption. Finney v. Comm'r, T.C. Memo. 1976-329.

Situation 3 - Co-Owner Not Liable on Mortgage

Facts: Various combinations of relatives co-own a house and the co-owners are all liable on a mortgage note. Consistent with its previous advice in the CCA, the IRS states that each owner may take a deduction for the amount each one pays subject to the limitations and requirements of section 163(h).

In a variation of Situation 3, the IRS considered the plight of a co-owning relative who is not directly liable on the mortgage. The IRS quoted Reg. Sec. 1.163-1(b), which states that "interest paid by the taxpayer on a mortgage upon real estate of which he is the legal or equitable owner, even though the taxpayer is not directly liable upon the bond or note secured by such mortgage, may be deducted as interest on his indebtedness." The IRS proceeded to cite favorably a line of Tax Court cases in which a taxpayer who is an equitable owner of a residence was permitted to deduct mortgage interest even though the taxpayer's family member was liable on the mortgage, rather than the taxpayer. Uslu v. Comm'r, T.C. Memo. 1997-551; Amundsen v. Comm'r, T.C. Memo. 1990-337.

For a discussion of qualified residence interest, see Parker Tax ¶83,515. (Staff Editor Parker Tax Publishing)

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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