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Homeowners must include ARM interest refunds as income.

Homeowners who claim an itemized deduction for interest paid on an adjustable rate mortgage (ARM) and who receive a refund from their mortgage companies in a following year for an earlier interest overcharge must include the refund in income for the year of the refund.

Recently issued Rev. Rul. 92-91 held: 1. Interest deduction: If a homeowner paid an interest overcharge as the result of a financial institution's miscalculation of interest on an ARM, the homeowner may deduct the overcharge in the year of payment as qualified residence interest under Sec. 163(h)(3). 2. Income inclusion: If the homeowner recovers the interest overcharge in a subsequent year, the amount recovered is includible in the homeowner's gross income in the year of recovery, to the extent the deduction of the interest overcharge reduced the homeowner's Federal income tax in a prior tax year. This result is the same whether the financial institution refunds the interest overcharge or reduces the outstanding principal on the homeowner's mortgage.

Rev. Rul. 92-91 applies to taxpayers who have paid ARM interest at a rate subsequently determined by the lender to be too high, and have claimed the amount as an itemized deduction. The ruling does not affect taxpayers who claimed the standard deduction on their tax return and then received an ARM interest refund; those taxpayers will not need to report the refund as income because they did not claim a mortgage interest deduction.

If the ARM interest refund is more than the difference between a homeowner's total itemized deduction and the standard deduction that could have been claimed, only a portion of the ARM interest refund is treated as income.

Example: A married couple, H and W, filed a joint tax return in 1991. H and W are entitled to a $5,700 standard deduction. If they claimed $6,000 in total itemized deductions on their 1991 return and received a $500 ARM refund in 1992, only $300 of the refund would be included on the 1992 tax return. If, however, they claimed $6,200 or more in itemized deductions, all of the $500 refund would be reported as income on their 1992 refund. (This example is adapted from the IRS information release accompanying Rev. Rul. 92-91.)

The tax treatment of ARM refunds is the same as that of refunds of state income tax, if the taxpayers overpay their state income tax, deduct the amount they actually paid and then receive a refund of the overpayment in the following year. ARM refunds should be reported only if a tax benefit was received.
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Article Details
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Title Annotation:adjustable rate mortgage
Author:Belotsky, Vincent P., Jr.
Publication:The Tax Adviser
Article Type:Brief Article
Date:Mar 1, 1993
Previous Article:Personal residence as charitable contribution.
Next Article:Tax trap for non-filers.

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