Subject-to transactions, are you writing off the mortgage interest?

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Deed is your name, mortgage is in previous owners name, you've been paying the mortgage, do you write off the interest? My accountant says I can't...

Why? You own the property.

Who is on the hook to pay the mortgage?

Medium realstarter2Bryan Hancock MBA, RealStarter | [email protected] | (512) 827‑9638 | https://www.realstarter.co/Home/BH

What is your exit strategy? Did you sell on a land contract or some such? Are you using this as a rental?

Here is a good resource for you from Bill Bronchick:

Tax Issues On A Subject-To Deal

Check the first result.

Medium realstarter2Bryan Hancock MBA, RealStarter | [email protected] | (512) 827‑9638 | https://www.realstarter.co/Home/BH

Time for a new accountant. There's some pretty sharp accountants on the board here.

My suspicion is that there is more to the story. I think you really have to know the exit strategy and not just how the property was purchased.

Medium realstarter2Bryan Hancock MBA, RealStarter | [email protected] | (512) 827‑9638 | https://www.realstarter.co/Home/BH

"the basic rule of the interest deduction is that the person who has an ownership interest in the property, uses it as his principal residence, and actually makes the interest payments is the one who is entitled to the deduction"

Holding & paying the note on the property covers 2 of the 3 requirements. I'd guess it could be considered "other interest" when it comes to taxes. I'm curious to see what a tax pro might say.

Ok allow me to start over ;)

I received the deed to a ****ty property in the hood for free. It was 3 months behind on the mortgage. I accepted the deed, got a power of attorney, and caught up the mortgage. I did some minor renovations to make the property renovated, and I've been renting it out for the last 3 years. I don't plan to sell it since it cash flows and the balance of the mortgage is about what it's worth. I will probably rent it for another 10 years or until the original seller bitches that a mortgage is still on his credit.

In that case you should be able to take the deduction. Why is your accountant claiming you can't?

Medium realstarter2Bryan Hancock MBA, RealStarter | [email protected] | (512) 827‑9638 | https://www.realstarter.co/Home/BH

My accountant says she had just tried to do this, and the IRS came back and wouldn't allow it, I'd have to get more specifics. She did say that you must be the one responsible for the debt. I argued that I am responsible because it is a lien on my home, but she said that it must actually be in my name.

If you are the one at risk for the debt it should be deductible. If you find anything from your accountant to the contrary please let us know.

I think the right answer is that you need to find a new accountant.

Medium realstarter2Bryan Hancock MBA, RealStarter | [email protected] | (512) 827‑9638 | https://www.realstarter.co/Home/BH

Not many accountants are going to know how to take an interest deduction on a subject-to deal. Most regular human beings don't know what a subject-to transaction is. To say to get a new accountant is unfair. To be realistic I should probably have to expect to research this on my own and provide the information to my accountant.

I think it is perfectly fair. The accountant should say they don't know if they don't know. You may point them here:

Aggressive Tax Avoidance For Real Estate Investors

I don't agree with everything written in this book, but most of the exotic real estate strategies are covered with associated court case citations. I have an old copy I can use to look things up. I would be shocked if you can't deduct the interest. That would certainly be news to me.

I think your accountant is wrong.

Medium realstarter2Bryan Hancock MBA, RealStarter | [email protected] | (512) 827‑9638 | https://www.realstarter.co/Home/BH

Dan,

You are allowed to deduct the interest on any property in which you have a financial interest. That includes being listed on the deed. If the IRS questions simply show them a copy of the deed and they will not argue. Since you stand to lose if the property is foreclosed on.

The loan itself does not have to be in your name.

-Steven the Tax Guy
Your guide to IRS laws, rules and regulations.

Medium hta logoSteven Hamilton II, Hamilton Tax and Accounting | [email protected] | (224) 381‑2660 | http://www.HamiltonTax.Net

@Dan Inc , I agree 100% with @Steven Hamilton II ...Sub-2 buyers have been deducting the mortgage interest paid for years.

Mortgage interest is such a common deduction for a rental property or personal residence that I'm surprised that it would even be an issue for the Service unless it appears excessive, is reported in some strange manner or the return was under audit. You may want to question your accountant as to his/her experience with real estate investors. He/she doesn't appear to be very familiar with Sub-2 transactions.

@Bill What happens is the Form 1098 submitted to the IRS will not have his name on it. So when the IRS's computer is matching the information it will generate a mismatch and send him a letter telling him to prove the interest deduction or pay. Spouses that are splitting, the who are claiming the interest if they are not the primary get those letters all of the time He can show his payment history as well as the deed and it will go away.

As I said and @Bill Walston agreed with in another thread.

"It may be time to find another accountant."

-Steven the Tax Guy.

Medium hta logoSteven Hamilton II, Hamilton Tax and Accounting | [email protected] | (224) 381‑2660 | http://www.HamiltonTax.Net

Originally posted by Steven Hamilton II:
@Bill What happens is the Form 1098 submitted to the IRS will not have his name on it. So when the IRS's computer is matching the information it will generate a mismatch and send him a letter telling him to prove the interest deduction or pay. Spouses that are splitting, the who are claiming the interest if they are not the primary get those letters all of the time He can show his payment history as well as the deed and it will go away.

As I said and Bill Walston agreed with in another thread.

"It may be time to find another accountant."

-Steven the Tax Guy.

What happens if both buyer and seller try to report the interest? It would appear both would have a financial interest; the seller could be sued for the debt if he defaults (I think?) and as was mentioned earlier the buyer would have a lose of the property.

Jerry Calhoun, Jerry Calhoun | 301‑490‑1042

Originally posted by Jerry Calhoun:

What happens if both buyer and seller try to report the interest? It would appear both would have a financial interest; the seller could be sued for the debt if he defaults (I think?) and as was mentioned earlier the buyer would have a lose of the property.

The seller is not entitled to take the interest deduction, regardless of the "financial interest." Not only is he/she no longer on the deed, he/she is no longer paying the interest - the sub2 buyer is. If discovered, the IRS would disallow the seller's attempt at the deduction.

Bill is absolutely correct.

Medium hta logoSteven Hamilton II, Hamilton Tax and Accounting | [email protected] | (224) 381‑2660 | http://www.HamiltonTax.Net

Has anyone been audited and was OK with this deduction?

My accountant says that if I took a property subject-to with a $500 interest only payment, and a $500 rent, that I'd have to pay tax on all that $500 rent and would not be able to take the interest as a write off. That doens't make sense to me. She disagrees with me and says she has proof from past audits.

Seriously, you need a new accountant.

Jon Holdman, Flying Phoenix LLC

You may be right, but to play devils advocate, its easy to say to simply get a new accountant. She says she has proof from audits, and that anyone can write off what they want, but when you get audited its another story...

OK, not a CPA, but my reading of IRS publication 936 sure makes it look like this is deductible:


Secured Debt

You can deduct your home mortgage interest only if your mortgage is a secured debt. A secured debt is one in which you sign an instrument (such as a mortgage, deed of trust, or land contract) that:

Makes your ownership in a qualified home security for payment of the debt,

Provides, in case of default, that your home could satisfy the debt, and

Is recorded or is otherwise perfected under any state or local law that applies.

In other words, your mortgage is a secured debt if you put your home up as collateral to protect the interests of the lender. If you cannot pay the debt, your home can then serve as payment to the lender to satisfy (pay) the debt. In this publication, mortgage will refer to secured debt.
Debt not secured by home. A debt is not secured by your home if it is secured solely because of a lien on your general assets or if it is a security interest that attaches to the property without your consent (such as a mechanic's lien or judgment lien).

A debt is not secured by your home if it once was, but is no longer secured by your home.

Wraparound mortgage. This is not a secured debt unless it is recorded or otherwise perfected under state law.

Example.

Beth owns a home subject to a mortgage of $40,000. She sells the home for $100,000 to John, who takes it subject to the $40,000 mortgage. Beth continues to make the payments on the $40,000 note. John pays $10,000 down and gives Beth a $90,000 note secured by a wraparound mortgage on the home. Beth does not record or otherwise perfect the $90,000 mortgage under the state law that applies. Therefore, the mortgage is not a secured debt and John cannot deduct any of the interest he pays on it as home mortgage interest.

Publication 527 tells how to do it:

Form 1098, Mortgage Interest Statement. If you paid $600 or more of mortgage interest on your rental property to any one person, you should receive a Form 1098 or similar statement showing the interest you paid for the year. If you and at least one other person (other than your spouse if you file a joint return) were liable for, and paid interest on, the mortgage, and the other person received the Form 1098, report your share of the interest on Schedule E (Form 1040), line 13. Attach a statement to your return showing the name and address of the other person. On the dotted line next to line 13, enter

Jon Holdman, Flying Phoenix LLC

Thanks Jon, I'll have to re read this a few times.

@Dan Inc , several of us have expressed the opinion that you should be looking for another accountant, as the one you are using clearly is not up on the ins and outs of real estate transactions. Yes, it 'IS easy for [us] to say, as most of us have probably 'been there, done that.'

You even go so far as to defend her, stating that 'not many accountants are going to know how to take an interest deduction on a subject-to deal.' I don't disagree. That being said, the accountants who deal with real estate investors on a regular basis make it their business to know. It is not your job to educate your accountant. If you are going to that why not just buy Turbo-Tax and do it yourself?

You need and accountant who is going to be able to help you, together with the other members of your power team, structure your real estate and other financial transactions in such a way that you get the benefit of every possible tax deduction. I don't think that you have that now.

It's not just the amount of the money that you earn, but also the amount that you keep.

Just sayin' :)

@Dan Inc ,

Please do understand we are all here to help one another. As @Bill Walston said in his post before me that you need an accountant who is going to help you plan and defend your strategy. If you have to spend time education them and second guessing there is a problem.

I have dealt with these audits several times and they are among the easiest topics to defend.

I'm almost willing to bet that if I went through your tax return with you that I would find some kind of mistake or item left out.(I won't bet because I'm too darn cheap to actually wager). But I would go as far as to offer to look over your past couple years returns free of charge. The last thing I want to see is a fellow investor getting raked over the coals.

-Steven the Tax Guy

Your guide to IRS laws, rules and regulations.

Medium hta logoSteven Hamilton II, Hamilton Tax and Accounting | [email protected] | (224) 381‑2660 | http://www.HamiltonTax.Net