When you sit down to calculate your federal income tax, you look for every possible tax deduction you can legitimately claim. Americans spend significant amounts of money each year on credit card interest as they try to pay down their debt. On the hunt for deductions, many people ask themselves: Is credit card interest tax deductible?
Unfortunately, credit card interest is not always deductible. The federal government creates tax deductions to incentivize certain behaviors, and getting into debt with credit cards is not a behavior the government wants to encourage. If citizens could deduct credit card interest from their income taxes, they’d have one more reason to keep their credit card balances high. Credit card interest is not always tax deductible, but there are some circumstances when credit card interest can be a tax deduction.
Business Expenses Versus Personal Expenses
The key to determining whether credit card interest is deductible is whether the expenses are personal or for business. Business expenses and any credit card interest accrued on those expenses are deductible; however, personal expenses and related credit card interest are not deductible.
Are you still paying off that treadmill you bought when you made a New Year’s resolution to get more exercise? That credit card interest is not deductible. Are you still paying off the backhoe for your landscaping business? That interest is deductible.
It sounds simple, but calculating your allowable deduction can be a pain when you mix personal and business purchases on the same card. If you expect to accrue interest on business purchases, having a credit card solely for business use makes your life much easier during tax season. You can mingle business and personal expenses on a credit card, but figuring your credit card interest deduction will take you some serious time and brain power. Save yourself some complicated math and open a separate credit card for your business expenses.
Other Types of Deductible Interest
While credit card interest is a fairly uncommon tax deduction, other types of interest deductions are far more common. Plus, you may be able to shift your credit card balance to another form of debt and then take advantage of a tax deduction.
Mortgage Interest Deductions
For the vast majority of American homeowners, the mortgage interest deduction allows them to reduce their taxable income by the amount of mortgage interest they paid. This deduction is capped to the interest accrued on $1 million in debt from loans made prior to Dec 14th 2017. Under the Tax Cuts and Jobs Act signed into law on December 22, 2017, that cap went down to $750,000 in debt on mortgages taken out December 14, 2017, or later.
Home equity loan interest is deductible in the same way mortgage interest is deductible. If you have enough equity in your home to borrow against, it may be advantageous for you to pay off credit cards by taking out a home equity loan. That way, your credit card is paid off, and the interest you pay is deductible on your federal income taxes.
Student Loans Interest Deductions
Student loan interest is another common deduction on federal income taxes. As long as you fall under the income threshold, you can deduct up to $2,500 in interest paid with the American opportunity tax credit. The threshold depends on whether you file as single, head of household, qualifying widow, or married filing jointly.
While the deduction applies to both subsidized and unsubsidized loans equally, subsidized loans have repayment options where interest is forgiven for a period of time. These income-driven repayment plans limit a borrower’s student loan payments to 10 percent of discretionary income. When a borrower’s payment doesn’t cover the interest amount, the federal government kicks in the needed funds to cover it.
Heres an example. Say a borrower has a $45 monthly student loan payment. The interest that accrues each month is $100. With income-driven repayment plans, the federal government subsidizes the remaining $55 in interest.
Under the Income-Based Repayment (IBR) Plan, Pay As You Earn (PAYE) Plan, and Revised Pay As You Earn (REPAYE) Plan, the federal government pays for up to three years the interest the borrow can’t cover. The REPAYE plan also covers half the unpaid interest after the first three years.
Auto Loans for Business Interest Deductions
Like credit cards, the federal income tax deduction on auto loans is reserved for business expenses. Interest on personal auto loans is not deductible.
The Bottom Line on Credit Card Interest
Is credit card interest tax deductible? Yes, but only for business purposes. The federal government does not want to encourage citizens to sink themselves into credit card debt, so tax laws do not incentivize this behavior. If you’ve fallen into credit card debt, you may be able to move your debt into a home equity loan which allows for the interest deduction on your federal tax return.
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