The Joint Committee on Taxation estimated that individual taxpayers' deductions of home mortgage interest reduced federal revenue by about $80 billion in 2009. Also, in its most recently completed comprehensive study of individual taxpayer compliance for 2001, the Internal Revenue Service (IRS) found that 12 percent to 14 percent of individual taxpayers deducting mortgage interest misreported deducted amounts. About half of taxpayers underreported the deduction while about half overreported.
Subject to various limitations, taxpayers may deduct interest on home mortgages or mortgage refinancings. Additionally, taxpayers with rental real estate are ordinarily allowed to deduct mortgage interest expenses for their rental properties from their rental income.
Lending institutions and other third parties are required to report to taxpayers and IRS on a Form 1098 Mortgage Interest Statement the amount of mortgage interest taxpayers paid during the year, if more than $600.
IRS has the opportunity to collect additional information about taxpayers' mortgages to help it determine whether taxpayers are deducting correct amounts of mortgage interest and identify the most productive cases to examine. Requiring expanded information on mortgage interest could also improve voluntary compliance, as taxpayers tend to more accurately report items that third parties report on information returns, such as Form 1098.
Lending institutions are generally required to report on Form 1098 the amounts of mortgage interest taxpayers paid during the year, but the form does not include other items, such as (1) the address of the property secured by the mortgage to which the interest on the form relates, (2) outstanding mortgage debt balances on the property, and (3) an indicator of whether the mortgage interest is for a loan that was refinanced during the current year.
Because a property address is not currently required on Form 1098, IRS cannot use an automated process to determine whether a taxpayer's deducted mortgage interest corresponds to a residence that is eligible for the deduction. For example, IRS cannot automatically determine if addresses reported on Form 1098 match the addresses that taxpayers list on their tax returns. Also, IRS is less able to determine if the interest reported on Form 1098 is for a property used for rental or personal purposes.
Because Form 1098 shows the dollar amount of interest a taxpayer paid in a year but not the mortgage balance, IRS's computer-matching program comparing Form 1098 to tax returns cannot be used by itself to determine whether taxpayers claimed interest on mortgages in excess of the legal limitations. For example, taxpayers generally cannot deduct interest on mortgage debt exceeding $1.1 million. Also, because Form 1098 does not show whether interest paid is from a refinanced mortgage, IRS cannot readily tell whether taxpayers are complying with rules specific to refinancing, such as the rule to amortize certain types of prepaid interest, or points.
To provide additional information that could further IRS efforts to identify taxpayers improperly deducting mortgage interest, GAO recommended in July 2009 that IRS revise Form 1098 to include information on the address of a property securing a mortgage, mortgage balances, and an indicator of whether the mortgage is for a current year refinancing. GAO also recommended, in August 2010, requiring mortgage-secured property addresses to be reported on other forms to help IRS detect taxpayers who fail to pay taxes on certain forgiven mortgage debt. With this additional information, IRS could check for noncompliance through its automated document-matching process, which is generally a less expensive enforcement action than conducting examinations. Additional information would also help IRS better select returns to examine. IRS agreed to study collecting additional information on Form 1098, stating it currently does not have enough data to support revisions. Because IRS has acknowledged it does not have information about taxpayers' mortgage debts to easily detect noncompliance, GAO believes that the recommended revisions to Form 1098 would be cost-effective ways to provide IRS with additional useful information to help it detect noncompliance.
The information contained in this analysis is based on the related GAO products listed under the "Related GAO Products" tab.
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The home mortgage interest deduction is the third most expensive federal income tax expenditure, with the government expected to forgo about $80 billion of revenue for the deduction in 2009.1 Subject to various limitations, taxpayers may deduct interest on home-secured loans, such as mortgages, mortgage refinancings, and home equity loans, including those taken as lump sum amounts and home equity...
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