New simplified method for allocating prepaid mortgage insurance premiums

Notice 2008-15, 2008-4 IRB

IRS has issued a Notice explaining how individuals may use a simplified method to allocate prepaid qualified mortgage insurance premiums to deter­mine the amount that may be deducted in 2007. The simplified method allows prepaid premiums to be allo­cated ratably over 84 months or if shorter, the term of the mortgage. Entities that report the amount actually received from the individual or the amount determined under the simplified allocation method will be treated as having met their information reporting requirements.

Background. Premiums paid or accrued by a taxpay­er during the tax year for qualified mortgage insurance in connection with acquisition indebtedness with respect to a qualified residence of the taxpayer are treated as qual­ified residence interest, subject to a phase-out based on the taxpayer's adjusted gross income. (Code Sec. 163(h)(3)(E)) Qualified mortgage insurance means mortgage insurance provided by the Veterans Admini­stration (VA), the Federal Housing Administration (FHA), or the Rural Housing Administration (RHA), and private mortgage insurance, as defined by Sec. 2 of the Homeowners Protection Act of '98 (12 U.S.C. 4901), as in effect on Dec. 20, 2006. (Code Sec. 163(h)(4)(E))

Observation: The Mortgage Forgiveness Debt Relief Act of 2007 (P.L. 110-142, 12/20/2007) extended the rules treating qualified mortgage insurance premiums as deductible qualified residence interest for three years. Thus, they apply if the amounts: (1) are paid or accrued before Jan. 1, 2011; (2) aren't properly allo­cable to any period after Dec. 31, 2010; and (3) are paid or accrued with respect to a mortgage insurance contract issued after Dec. 31, 2006.

Except for amounts paid for qualified mortgage insurance provided by the VA or the RHA, any amount paid by the taxpayer for qualified mortgage insurance that is properly allocable to any mortgage the payment of which extends to periods that are after the close of the tax year in which that amount is paid is chargeable to capital account and must be treated as paid in the period to which it is allocated. But, no deduction is allowed for the unamortized balance of premiums that have been capitalized if the mortgage is satisfied before the end of its term. (Code Sec. 163(h)(4)(F))

Under Code Sec. 6050H(h), any person who in the course of a trade or business receives premiums for mort­gage insurance from any individual aggregating $600 or more for any calendar year must file an information return. For 2007, qualified mortgage insurance premi­ums are reported in box 4 on Form 1098, Mortgage Interest Statement. The Instructions for Form 1098 state that, except for amounts paid to the VA or RHA, pay­ments allocable to periods after 2007 are treated as paid in the periods to which they are allocable. Under Code Sec. 6724(a), a failure to file a correct information return isn't subject to a penalty where it is shown that the fail­ure is due to reasonable cause and not to willful neglect.

Allocation of prepaid premiums. Notwithstanding the general rules for the treatment of qualified residence interest, Notice 2008-15 provides the following rule of administrative convenience. To determine the amount treated as deductible qualified residence interest for 2007, individuals who in 2007 obtained a mortgage qualifying as acquisition indebtedness on a qualified residence and paid (by cash or financing, without regard to source) a qualified mortgage insurance premium for private mortgage insurance or FHA mortgage insurance issued in 2007 but extending beyond 2007, may allocate the prepaid premium ratably over the shorter of:

(1) the stated term of the mortgage, or

(2) 84 months, beginning with the month in which the insurance was obtained.

Notice 2008-15 notes that taxpayers may have to con­tact the issuer of the Form 1098 to determine the manner in which the premium amount was reflected in box 4.

Notice 2008-15 also provides that entities reporting either the amount actually received or the amount determined under the above 84-month allocation method will be deemed to meet the requirements under Code Sec. 6724(a).