Buy out equity in home of non-spouse's share, does interest qualify as qualified mortgage interest.

[swacpa]

Hello Taxpayer buys out another person's share of a house that is used as taxpayer's principal residence. The other owner is a child of the taxpayer and the buyout will be paid via a mortgage. Will the interest paid on the buyout mortgage qualify as mortgage interest and this deductible?

Thank You

Steve

[sjrcpa]

If it meets all of the criteria for a mortgage, it could qualify as mortgage interest on a second home.

[BobKamman]

@sjrcpa  Where do you see it's a second home?  I read it as this being the taxpayer's primary residence.  (" a house that is used as taxpayer's principal residence")  But the cast of characters here is confusing, and the mention of a "non-spouse" in the heading but not the text sets off alarm bells. It would be helpful to have a better description of the parties involved.  For example, "Dad lives with Son.  Son owned the house until he added his wife's name as co-owner.  Now Son is getting a divorce and Dad is buying out Ex-Wife so that he can continue living there."  But your guess is as good as mine.  

[sjrcpa]

@BobKamman I think I misread it as taxpayer' child lived in it.

To rephrase my answer, if it meets all the requirements of a mortgage, then taxpayer can deduct the mortgage interest.

[hutto]

Thank you Bob & SJR for your thoughts, sorry for not including all the facts to help describe the transactions. Parents live in the home as their principal residence. Son is a joint owner in property but does not live there. Parents want to buyout son's share of house so they would own 100% of home going forward. No current mortgage on property but will pay son out over time with fair interest rate. Tryng to see if the interest paid to buy the other half qualifies as mortgage interest and can be a tax deduction.

Really appreciate your time and thoughts.

Steve

[sjrcpa]

It has to qualify as a mortgage. Read the rules for that.

A note with fair interest rate is not enough.

[rbynaker]

IRC 163(h)(3) is your starting point.

(B)Acquisition indebtedness

(i)In general
The term “acquisition indebtedness” means any indebtedness which—

(I)

is incurred in acquiring, constructing, or substantially improving any qualified residence of the taxpayer, and

(II)

is secured by such residence.

As SJR alluded to, this may depend on how this is structured.  It needs to be a formal mortgage secured by the property (generally the mortgage is filed with the local court but state laws may vary).

[BobKamman]

I would want to know how the son acquired title.  From the parents?  If we look at substance over form, is this a case of "let's turn our gift into a tax deduction by deeding half the house to our son, then buying it back from him with deductible interest" ?

@rbynaker "(generally the mortgage is filed with the local court but state laws may vary)."  Generally, the city or county clerk is not a part of the court system.  What's generally the case in your commonwealth is not true elsewhere.  (Generally, my friends in Kentucky, Virginia, Pennsylvania and Massachusetts tell me they live in a commonwealth, so I suppose that's what happens elsewhere.)  But the point is, it's not enough to have the document that secures the debt, it has to be recorded wherever people do that.