taxes on my mortgage deal??

Question

here's the mortgage deal I'm being offered --

we owe 250,000
current interest rate is 6.75%
28 more years to go

scheduled interest rate should be 8.75%, effective this month

the deal being offered -- 5.25% interest for 5 years, after which it returns to the scheduled (ARM) rate.

effect on payment:
a) at 8.75% payment is
b) at 5.25% payment is

difference of 3.5% or 8750/yr [if it was interest only]

Data: I'm not paying anything for this deal. Obviously, my mortgage interest deduction will be about 8750 per year lower on my taxes [yes, we itemize -- if AMT doesn't get us]

Question: is the 43750 I'll save by agreeing to this taxable income to me? If so, when do I have to report it and pay the tax?? [it's almost enough all by itself to push us into the AMT if I have to report it all in one year.]

thanks for the help, guys

[citations to IRS rules and forms very helpful]

ya, it is a loan mod

Answer 1

No, savings by finding a cheaper mortgage does not become taxable income.

Answer 2

Since when would interest you don't pay be counted as income? Anytime someone refinances a mortgage a lower rate the difference in interest is not income; it is a reduction in an expense. If this were not the case then imagine the silliness if you refinanced for a HIGHER rate, in which case suppose you would be paying $43,750 MORE in interest. Do you think for one minute that additional interest would be a tax credit and simply deducted from any tax you owe? This is the bizarre bordering on the even more bizarre.

Also, you can prepay a mortgage at any time. Suppose you bought a house and plopped a new 30 year mortgage on it, and over the life of the loan you would pay something like $200,000 in interest. Now, suppose you get a better job offer in a distant city and have yo sell in 6 months. When your house is sold the mortgage is paid off from the proceeds, so in this case you would not be paying the almost $200,000 in interest over the next 30 years. How insane would it be that if this interest you no longer had to pay was treated as income??? Sell your house and all of a sudden you would have $200,000 in income. No one could ever afford to sell their house.

Even more insane would be the concept that any interest you do not pay is therefore income. If you had a credit card with a zero balance do you think you would have to count the interest you do not pay as income to the extent that it would be if your card were maxed out? This is something right out of Lewis Carroll, or better yet, Animal Farm.

Answer 3

Is this a loan mod we're talking about here or a Refinance?

If it is a Loan modification then there is a chance I understand what you are talking about. If it is a refinance then I have no idea.

In instances when a bank forgives debt the fed currently calls that income to you and it is generally taxable.
Even so, a loan modification is an agreement between you and the bank in which they agree to modify the terms of your loan because you can not make payments on your current schedule and they don't want to foreclose. If the mod only deals with interest rate (and not reduction of principal) I seriously doubt that the fed or anyone would call that forgiveness of debt and therefore it likely wouldn't be taxable. You would have to talk to a good tax person to make sure.

If you are talking about a refi then don't think of the $ that you are not going to be able to write off on your taxes, think instead of the overall cost of your loan. No you definitely would not have to pay taxes on the potential future savings in one year.

Answer 4

No it isn't. You are simply redoing your mortgage to a lower rate, and the savings are the interest that you will not pay.

It isn't income.

Yes, you will loose the interest deduction for that interest amount but you will come out better. Do you get all of that back from the IRS, dollar for dollar? No, it just reduces your income by that dollar amount, so you pay a lower tax. So if you are at the 25% tax bracket, at best you get twenty five cents on a dollar back, not the full amount.

Cheers.

Answer 5

The short answer is no. You only pay tax on capital gains. Since all you are doing is refi-ing your mortgage you will not have any tax burden.

Where did you get the idea that not paying interest is taxable?