In 2016, the U.S. Treasury created the Hardest Hit Fund (HHF) program to provide certain homeowners with assistance designed to help them keep their homes. States set up and administer the program, which includes help with mortgage payment assistance and principal reduction and is targeted to the unemployed or whose homes are worth less than their mortgages (i.e., those “under water”). In 2017, the IRS provided participating homeowners with a safe harbor method to determine the deductible amount of mortgage interest and real estate taxes (Notice 2017-40). Under the safe harbor, a homeowner can deduct the lesser of:
- The sum of all payments on the home mortgage actually made during a taxable year to the mortgage servicer or the State Housing Finance Agency (HFA); or
- The sum of amounts shown on Form 1098, Mortgage Interest Statement, for mortgage interest received, real property taxes, and mortgage insurance premiums.
The Tax Cuts and Jobs Act created new limitations on deducting mortgage interest and real estate taxes. For example, real estate taxes are subject to the $10,000 overall limit on the deduction for state and local taxes starting in 2018. New IRS guidance (Notice 2018-63) amplifies the safe harbor method for 2018, explaining how it applies in light of the new limitations. The homeowner may first allocate amounts paid to mortgage interest up to the amount shown on Form 1098. The homeowner may then use any reasonable method to allocate the remaining balance of the payments to real property taxes, mortgage insurance premiums, home insurance premiums, and principal. This can ensure that the mortgage interest deduction is maximized before treating any payments as real estate taxes.