Deducting Interest if you aren't the Owner of Record
|When I teach, I often jokingly say that we should use our adult children to start our real estate investing career. It’s funny because I got this question last week, so it is perfect timing to answer it for this Lesson’s from the Pros.
Question: “I’m working with my son on buying a condo. He makes a good living and has a down payment but has some issues with his credit. I was told that the property should be in my name only, but my son will live there, pay the mortgage, taxes, insurance and all maintenance. Can he deduct the mortgage and interest if the property is in my name?“
Answer: First, you need to contact your tax professional. With that being said, there is a qualified yes. There are certain rules that, if followed, your son will be in a position to prove that he is eligible to take the deduction.
Here is the IRS regulation 1.163:
Interest paid by the taxpayer on a mortgage upon real estate of which he/she is the legal or equitable owner, even though the taxpayers is not directly liable upon the bond or note secured by such mortgage, may be deducted as interest on his indebtedness.
The above regulation along with this ruling back in 2003 (Montoya v IRS decided August 5, 2003) that stated, “…directly liable on the note securing the mortgage on his mother’s house, nor (was) he a legal or equitable owner of the property,” made many feel there was no way to deduct interest unless you were an “equitable owner”. So, what is an “equitable owner”? It is defined as, “ownership by one who does not have legal title.”
In 2015 Tax Court in the case Phan vs. IRS, the court was impressed with the fact that a son’s family had granted him an interest in the property and would allow him to add his name to the title if he paid the property expenses.
So how can you meet the burden of proof of being an “equitable owner”? Here are a few suggestions:
The equitable owner must continuously live in the property. These documents can be used as proof of living in the property: drivers’ license, voter registration, utility bills or anything that has your name and address on it.
The equitable owner and indebted owner should enter into a written agreement. The agreement should spell out that he is fully obligated to make the mortgage payment on a timely basis and that the indebted owner reserves the right to evict the equitable owner should he go into default. The agreement should specifically state that the indebted owner recognized that the equitable owner has interest in the property.
The equitable owner must be responsible for all maintenance and upkeep of the property.
It would be a good idea to be prepared to sign a Quit Claim Deed. This may not need to be recorded.
Hope this answers your question. There are no guarantees, but if you follow these guideline you are more likely to prevail if there becomes an issue with the IRS.
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