Using a home equity loan or home equity line of credit (HELOC) are popular ways for individuals to borrow for college expenses, often at lower interest rates than would be available on student loans. This month we wanted to take time to highlight a change in the tax treatment of home equity interest that was included as part of the Tax Cuts and Jobs Act of 2017 (last year’s income tax changes).
In 2017 and prior, the interest paid on home equity borrowing was tax deductible on loan balances of up to $100,000 regardless of how the funds were used. Due to this tax provision, many were able to borrow for college on a tax-advantaged basis against their home to pay for college tuition or other associated expenses. Beginning in 2018, and through 2026, this is no longer the case.
The new tax rules state that the home equity interest deduction is only available if the loan funds are used to “buy, build or substantially improve the taxpayer’s home that secures the loan”.1 This disqualifies loans used for other purposes such as college expenses to qualify for the residence interest deduction.
However, a loan using home equity as collateral may still be eligible to receive preferential tax treatment if it can be considered a “qualified student loan”. The loan would need to be used to pay for qualified education expenses ONLY including:
- Tuition and fees
- Room and board
- Books, supplies and equipment
- Other necessary expenses such as transportation
Co-mingling the purpose of the loan such as using it to pay for college expenses and pay-off credit card debt would disqualify it from being eligible for the student loan interest deduction of up to $2,500 per year. The interest deduction does not require a taxpayer to itemize their deductions, but it is subject to income limitations. Individuals making over $80,000 (AGI) and married joint filers who earn more than $165,000 (AGI) per year will not qualify.
Andrew Hoffarth, CFP®
Financial Advisor – College Funding Specialist
1 Source: www.IRS.gov