Filing separate returns can be an expensive move.  It was more expensive than usual for a Brooklynette in Tax Court yesterday.

The taxpayer bought a residence for $1.35 million in 2007.  She lived there with her husband and paid all of the $1 million  mortgage, including $49,739 in interest during 2007. For reasons not made clear in the Tax Court opinion, she filed her 2007 return “married filing separate,” rather than jointly with her husband.  

The tax law limits how much home mortgage interst you may deduct based on the amount of the loan.  For joint filers, you can only deduct interest on up to $1.1 million in home mortgage debt: $1 million “acquisition indebtedness” and $100,000 in “home equity indebtedness.”  As with many other deductions, the tax law cuts these amounts in half for married-filing-separate returns.  The Tax Court takes up the story (my emphasis):

There is no dispute that the property meets the definition of a qualified residence and that the mortgage interest petitioner paid is qualified residence interest because it was paid on acquisition indebtedness and home equity indebtedness secured by the property.

In his notice of deficiency respondent allowed petitioner to deduct home mortgage interest on a total of $550,000 of indebtedness ($500,000 in acquisition indebtedness under section 163(h)(3)(B)(ii) plus $50,000 of home equity indebtedness under section 163(h)(3)(C)(ii)). Petitioner claims that she should be allowed to deduct interest paid on the entire $1 million of indebtedness.

Petitioner correctly asserts that the parenthetical indebtedness limitations of section 163(h)(3)(B)(ii) and (C)(ii) are $550,000 for each spouse filing a separate return. However, petitioner further claims that these limitations were enacted so that, collectively, a married couple filing separately can claim $1.1 million of aggregate indebtedness across both of their returns and is not limited to claiming a maximum of $550,000 on any one return. We disagree.

In short, the Brooklynette said that if her husband wasn’t using all of his deduction on his separate return, she could use it for him.  Separate returns don’t work that way.  Strangely, if they had stayed unmarried but moved in together, she could have deducted the whole $1.1 million.

Citation: Bronstein, 138 T.C. No. 21

Related:

Sophy’s choice: unmarried couples get only one $1.1 million deductible home mortgage loanf

Mortgage deduction traps?

Rick Santorum makes Obama-esque tax planning move

 

Tags: home-mortgage interest, Judge Goeke, tax court

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