In general, you can deduct interest paid on money you borrow to invest, although there are restrictions on how much you can deduct and which investments actually qualify you for the deduction.
Key Takeaways
- Deductible investment interest expenses refer to the interest paid on money borrowed to invest in assets that produce taxable investment income or appreciate in value allowing you to sell at a future gain.
- The deduction for investment interest expenses is limited to the amount of taxable investment income earned in the same year.
- Investment interest can only be claimed by itemizing deductions on Schedule A and filing Form 4952.
- Interest incurred from a 'passive activity' investment generally does not qualify for the investment interest deduction.
Investment interest
The federal tax code includes a number of incentives to encourage investment. Among them is the deduction for investment interest expenses. In general, you can deduct interest paid on money you borrow to invest, although there are restrictions on how much you can deduct and which investments actually qualify you for the deduction.
Definition of an investment interest expense
When you borrow money to buy property for investment purposes, any interest you pay on that borrowed money becomes an "investment interest expense." For example, say you take out a $5,000 loan against your home equity and use the money to buy stock. The interest on that loan is investment interest. (It wouldn't be deductible as mortgage interest because you didn't use the money to buy, build or improve your home.) If you use only part of the borrowed money for investments, you can deduct only a proportional amount of the interest you pay.
What qualifies for deduction
The deduction applies to interest on money borrowed to buy property that will produce investment income—interest, dividends, annuities or royalties—or that you expect to appreciate in value, allowing you to sell it at a gain in the future. However, you can't deduct interest when the property you buy produces nontaxable income, such as tax-exempt bonds.
In any year, you cannot deduct more in investment interest than you earned in investment income. However, you can carry forward your "disallowed" investment interest to the next year.
TurboTax Tip:
The interest on a loan taken to buy a house to rent out is not deductible as investment interest but can usually be deducted as an expense item for operating costs of the rental property on Schedule E.
Passive activity
Interest incurred for an investment in a "passive activity" generally doesn't qualify for the investment interest deduction. A passive activity is a business or trade in which you hold an ownership interest but in which you don't actually participate.
For example, say you borrowed $20,000 to buy a 10 percent stake in a friend's car wash. That stake is certainly an investment, but unless you were there washing cars (or doing some other work), it's a passive activity, because you're not materially involved running the business. Thus, you couldn't deduct the interest on the $20,000 loan as investment interest. However, you could use the interest to offset income you received from the passive activity.
Also, under the tax code, rental activity generally counts as passive activity, so if you borrowed money to buy a house to rent out, the interest isn't deductible as investment interest. But in this case, you could use the interest as an expense item for operation of the rental property on Schedule E.
Taking the deduction
To actually claim the deduction for investment interest expenses, you must itemize your deductions. Investment interest goes on Schedule A, under "Interest You Paid." You may also have to file Form 4952, which provides details about your deduction. You don't have to file this form if you meet three conditions: interest is the only investment expense you're deducting; you're not carrying forward any disallowed interest from the previous year, and your investment interest doesn't exceed your investment income from interest and ordinary dividends.
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FAQs
What qualifies for deduction. The deduction applies to interest on money borrowed to buy property that will produce investment income—interest, dividends, annuities or royalties—or that you expect to appreciate in value, allowing you to sell it at a gain in the future.
What qualifies as deductible interest? ›
You can deduct several types of interest, including mortgage interest, student loan interest, investment interest, and business loan interest.
What investment fees and expenses are deductible? ›
Professional investment advice or financial newspaper subscriptions are example of deductible items, as is safe deposit box rent when you use the box to store investment papers. You can also claim fees you incur for replacing stock certificates.
What investment expenses are deductible for the net investment income tax? ›
Some common investment deductions are brokerage fees, investment advisory fees, tax preparation charges, local and state income taxes, fiduciary expenses, investment interest expenses and any costs involved with rental and royalty income.
Is interest on an investment property deductible? ›
You can deduct investment interest as an itemized personal. However, you can deduct investment interest only from investment income. Thus, if you have no investment income, you get no deduction. If your interest expense exceeds your investment income, you cannot deduct the overage.
What type of investment interest is deductible? ›
What qualifies for deduction. The deduction applies to interest on money borrowed to buy property that will produce investment income—interest, dividends, annuities or royalties—or that you expect to appreciate in value, allowing you to sell it at a gain in the future.
What type of interest expense is not deductible? ›
The Internal Revenue Service (IRS) allows you to deduct several different types of interest expense, including home mortgage interest and interest related to the production of income. But, it does not allow deductions for consumer interest expense.
What investment expenses are not deductible? ›
Advisory and other investment fees charged on registered assets, regardless of the investments held, are not tax deductible. However, you have the option to pay the investment fees charged on a registered account from the registered account itself or from outside the account.
What are investment deductions? ›
The investment deduction is intended to encourage SMEs to make productive investments. The investment deduction reduces the amount on which tax must be paid. The amount of the deduction is determined by the percentage of the investment.
Can I deduct brokerage fees on my taxes? ›
Any fees you pay to buy, sell, or hold an asset or to collect interest or dividends are not eligible for income tax deduction. This would include brokerage or transaction fees, management and advisor fees, custodial fees, accounting costs, and fund operating expenses.
You can avoid the net investment income tax by keeping your MAGI below $200,000 for single filers, $250,000 for those married filing jointly or $125,000 for those married filing separately.
What type of interest is deductible? ›
Tax-deductible interest payments
According to the IRS, only a few categories of interest payments are tax-deductible: Interest on home loans (including mortgages and home equity loans) Interest on outstanding student loans. Interest on money borrowed to purchase investment property.
What investment fees are deductible? ›
Prior to the Tax Cuts and Jobs Act of 2017 (TCJA), taxpayers were allowed to deduct expenses such as fees for investment advice, IRA custodial fees, and accounting costs necessary to produce or collect taxable income. For tax years 2018 to 2025, "miscellaneous itemized deductions" have been eliminated.
How much property interest can I deduct? ›
You can deduct the interest you paid during the tax year on the first $750,000 of your mortgage. For married couples filing separately, the limit is $375,000.
What type of interest is never deductible? ›
Types of interest not deductible include personal interest, such as: Interest paid on a loan to purchase a car for personal use. Credit card and installment interest incurred for personal expenses.
What mortgage interest is not deductible? ›
The interest you pay on a mortgage on a home other than your main or second home may be deductible if the proceeds of the loan were used for business, investment, or other deductible purposes. Otherwise, it is considered personal interest and isn't deductible. Main home. You can have only one main home at any one time.
What loan interest is tax-deductible? ›
Though personal loans are not tax-deductible, other types of loans are. Interest paid on mortgages, student loans, and business loans often can be deducted on your annual taxes, effectively reducing your taxable income for the year.
How do you calculate deductible interest? ›
Calculating your mortgage interest deduction is something you can do yourself. Divide the maximum debt limit by your remaining mortgage balance, then multiply that result by the interest paid to figure out your deduction.
