This article has been updated for the 2016 Tax Year
With tax season just around the bend, you might be starting to pull all your bank statements and other financial documentation together. You also might be wondering if there are any new changes to the tax code that might effect your personal or business tax return. It makes no difference whether you pay the interest on a business or personal loan, credit card, real estate mortgage, or car loan. If you use the funds for a legitimate business expense, the interest you pay is a deductible business expense. Read on to discover if this is something you can capitalize on this type of tax deductible interest.
Personal Loan Interest Used to Be Tax Deductible
Interest on personal loans and credit card debt were at a time deductible on your income tax return. However, this is not the case any longer as Congress stepped in and created the Tax Reform Act of 1986.
The Treasury Department noticed that Americans weren’t cutting back on their spending habits. Savings were about a thing of the past. So if you make purchases with a credit card, it could be deducted from your taxable income. This was bad news for the government as Americans tax liability was lowered – resulting in reduced tax revenues. So the personal interest category was eliminated with the exception of your home and certain other types of non-personal debt.
What Interest Payments are Eligible?
So let’s review what interest you pay is tax-deductible. There are four major categories that meet this criteria.
- Interest on student loans
- Interest on a second home
- Interest on mortgage and home equity loans up to $1 Million total
- Interest on loans for investment property that generates taxable income (deduction limited to taxable investment income)
- Interest accrued for a deductible business expense
So don’t count on the interest gained for unpaid utility bills, late fees, or your unpaid income taxes. You won’t get that deduction at all.
Was this Loan for a Business Expense?
As one of the categories is interest accrued for your business, consider if your personal loan was actually for your business. Many small businesses and startup owners do not have the credit or business income available to take a “business loan”. So this means you have to be creative and take a general personal loan or use your business or personal credit card.
If you do use personal loan or a credit card, you don’t want to mix your personal expenses with business expenses. So pay it off in full and revert it to business use only. It would be wise to check with your accountant before making any transactions for your business with non-business debt.
Make sure to keep detailed track of what each withdrawal or credit charge is used for. Keep every receipt or at least scan each receipt into a business tracking software. This will make it much easier for your accountant when filing your tax return.