Non-American here. Was there/is there a rationale for allowing people to deduct interest from their incomes? It has always seemed odd to these English eyes. Is it considered a way to encourage people to buy property/invest in their education or is there more to it than that? As a home owner, I would love this deduction ;-)
Was there/is there a rationale for allowing people to deduct interest from their incomes?
Yes. The situation is analogous to borrowing money to invest in the stock market: Your profit is the profit you make from the stocks minus the interest you pay on the loan, and that difference is what you pay tax on.
In Canada, a mortgage on a principle residence is not tax deductible, since Canadian tax law doesn't consider where you live to be an "investment"; this is balanced by a principle residence being exempt from capital gains tax.
If you have a 'home office' then the interest you pay on your mortgage is an expense, and is thus a business deduction, as are hydro, gas, communications, etc.
If you have a business that borrows to buy and then rent houses, the same principle pertains; the interest on the mortgage is an expense.
AIUI in some areas if the business claims for part of the main residence as a home office over a prolonged period then Capital Gains Tax can be due on that same fraction if there's a profit when the house is sold. IOW, it's not a free lunch.
I'm not very familiar with these rules, but you're definitely right that there are some complications. I have a friend who works for CRA and commented that he would never claim costs of a home office in a residence he owned, simply because the tax savings wouldn't be enough to make up for the headaches and tax audits which would result. (Claiming a home office in an apartment you're renting is much easier, since there's no capital gains to worry about and there's an easy paper trail for how much the space costs.)
If you have a 'home office' then the interest you pay on your mortgage is an expense, and is thus a business deduction, as are hydro, gas, communications, etc.
Only in proportion to the fraction of the house which constitutes your home office.
If you have a business that borrows to buy and then rent houses, the same principle pertains; the interest on the mortgage is an expense.
Right -- mortgage interest is a business expense when it's paid for a business reason. A principle residence is not considered to be an investment; it's considered to be a home.
The student loan interest deduction gets phased out pretty early. It's gone once your AGI is over $75k.
ITEMIZED deductions get reduced by 3% of every dollar you make over a specified threshold. That's 300k in 2013 with this bill. It's called the Pease phaseout and its back after being partially or completely repealed in previous years.
If you are married, filing jointly, the student loan interest deduction is fully gone at $150,000 of adjusted gross income. Yet another in a long line of reasons why DOMA sucks.
But I think my main point was that a lot of deductions disappear once your AGI reaches a point where people feel that you don't need the benefit of that deduction.
With Pease Itemized Deduction phaseouts, the effective tax rate for high wage earners goes up independent of their marginal tax rate because more of their income is taxed at those rates.
