Tax Question - Cash out Refi to Payoff Primary Residence

[Chris Kinney]

One of my rental properties is fully paid off while I have around 200K remaining on the mortgage for my primary residence at an interest rate of 3.875% (and I am only 4 years into the term).   I am thinking of doing a cash out refi on the rental to fully payoff my primary residence if it would be advantageous from a tax perspective (given the new tax law's higher standard deduction for schedule A, I may not qualify for itemized for W2 income).  

If I do a cash out refi, am I able to deduct the the mortgage interest from rental income (I am not sure if this is treated differently than interest from a mortgage used as part of a purchase)? If so, I still am not sure whether it makes sense considering that I would need to do the Refi at an interest rate over 5% vs. the 3.875 I have currently (i.e. does potential tax benefit make up for the increase in rate). Even if it is not a savings but close to a wash, I would still consider the refi because it would give me the ability to substantially increase the limits on my existing HELOC.

[Michael Plaks]

Originally posted by @Dan V.:

@Natalie Kolodij or @Michael Plaks What if the situation is the other way around, refinance primary residence to payoff rental property mortgage? What will be the tax implication on the interest? Will it be considered business expense or will it be itemized deduction? I'm still learning...

Business, subject to interest tracing rules.

Example: $200k loan on the residence. $100k loan on the rental. You refinance the home into a $400k loan, and you use $100k to pay off the rental property. Result:

• 50% of the interest ($200k) is itemized on Sch A
• 25% of the interest ($100k) on Sch E
• 25% non-deductible, unless used for some business purpose