Income tax, mortgage interest and two people

[gotpasswords]

For two unmarried people that both pay toward a mortgage and file individual Federal tax returns, is there any easy way to figure the best percentage ratio for splitting the amount of interest paid to maximize tax refunds?

Let's say Person 1 earned $15,000 and had $5,000 in payroll tax deductions, and Person 2 earned $40,000 and had $7,000 in deductions. (The joys of pre-tax payroll deductions!) Do you split the interest as 50:50, 15:40 or 5:7?

I can at least say that in our situation, 50:50 would have been a sucker bet. I wound up getting about $1,000 more back last year by playing around with the split.

Last year, I was able to have both person's tax returns up on the computer simultaneously and juggle amounts manually, but that was tedious and I have no idea if the ratio I settled on was actually the best at getting the most money back, hence wondering if there's a more formula-driven way, rather than making a series of guesses.

[friedo]

I would WAG that you are not allowed to split it willy-nilly. You probably have to split the interest in the same ratio that you each paid toward the mortgage.

[gotpasswords]

There's the rub. The mortgage was paid out of a joint account, and there's not been any attempt made to say "Person 1 paid xx% of the mortgage this month and Person 2 paid yy%"

On a pro-rata basis, Person 1 with the hypothetical $15,000 income and Person 2 with the hypothetical $40,000 income probably wound up splitting everything at a 15:40 ratio just because the funds are fungible once they hit the checking account. The grocery store neither knows nor cares who paid what percentage when we buy food, for example.

So with that in mind, do we split using gross pay, net pay or adjusted gross income? The IRS' instructions don't seem to specify how to allocate this, other than each person reports whatever percentage they paid.

[DrDeth]

To minimize tax paid, you'll very likely want to give it all to the person in the higher bracket. This will also minimize questions from the IRS.

[Joey P]

Originally Posted by DrDeth

To minimize tax paid, you'll very likely want to give it all to the person in the higher bracket. This will also minimize questions from the IRS.

That would be my guess. Try to get the person with more income down into a lower bracket. If your doing the taxes yourself, couldn't you just try the different variations and see which one works best?

[Bobalude]

hey I have the exact same question/scenario.

I was wondering if you could alternate every other year?

Year 1:
Person A: Makes all the payments, writes off the entire interest by itemizing
Person B: Makes no payments, takes the standard deduction

Year 2:
Person A: Makes no payments, takes the standard deduction
Person B: Makes all the payments, writes off the entire interest by itemizing

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Regarding figuring out payments:

Given there's the 12k/year that may be gifted w/o gift tax consequences, lets say the person not paying the mortgage for their year then gifts 12k (or the appropriate amount of their share) to the other person.

Sounds like a technical workaround, but I always did wonder if it is a legit strategy.

[DrDeth]

Originally Posted by Bobalude

I was wondering if you could alternate every other year?

Regarding figuring out payments:

Given there's the 12k/year that may be gifted w/o gift tax consequences, lets say the person not paying the mortgage for their year then gifts 12k (or the appropriate amount of their share) to the other person..

The IRS would not like that. Anyway, you get a Mort Interest 1098, and it has one name on it (or a couples).

And, you are mis-informed on how gift taxes work. In reality, you would not pay any "gift taxes" until the gifts get to 1 Million $$. Gift taxes are just a way to stop dudes from an end-run around Estate Taxes.

[Tastes of Chocolate]

We are in this situation, except with a smaller disparity between the income levels. For us, it worked best to put all of the interest, and then all additional deductions, onto the taxes of the highest income person. Since that person is paying taxes at the highest rate, the deduction is worth the most there.

In our case, we keep seperate checking accounts, so we have to be careful to always write the check out of the designated person's account, or we leave ourselves open to a visit from the taxman.

[Jurph]

It will probably be the case that an endpoint (higher-earning person takes all credit) is your winning scenario, but there may be a case where the interest deductions are so large that they move the top earner into the bottom slot. In that case, you should deduct from the top earner however much is required to make the two of you pay an equal amount of tax, and split the rest of the interest 50/50.