You may be wondering if the credit card interest you pay could save you some money on your taxes. The answer depends on several factors including how you use your credit card and on what kind of expenses.
Credit card interest can be confusing when it comes to taxes. You may wonder if the interest you pay on your credit cards is tax deductible. The short answer is – it depends. Personal credit card interest is generally not deductible, but business credit card interest can be deductible in some cases. Let’s take a closer look at the rules around deducting credit card interest.
Personal Credit Card Interest
The government stopped allowing a tax deduction for personal credit card interest with the Tax Reform Act of 1986 So unfortunately, you typically can’t deduct interest paid on credit cards that you use for personal expenses
Personal expenses include things like
- Clothing
- Dining out
- Electronics
- Vacations
- Vehicle purchases
So if you paid $1,000 in interest last year on credit cards used for the above types of personal purchases, that interest is not deductible on your tax return.
The IRS considers this type of interest as personal, nondeductible interest. Even if you used credit cards to pay off personal loans or to subsidize the purchase of your home, the interest still isn’t deductible.
Business Credit Card Interest
Here’s the good news. Interest paid on credit cards used for legitimate business expenses is usually tax deductible. When you use a credit card to purchase equipment, supplies, or other items for your business, the interest incurred can qualify as a business expense.
For example:
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A retailer uses credit cards to buy inventory for her store. The interest paid on those cards is deductible.
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A freelancer uses a credit card to purchase a new computer for his home office. He can deduct the interest on that purchase.
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A doctor uses her credit card to pay for travel to a medical conference. The interest is deductible.
In these cases, the interest paid is a deductible business expense reported on Schedule C for sole proprietors or Schedule F for farmers. For partnerships and S corporations, the interest flows through to the K-1 tax forms of the owners. C corporations deduct business credit card interest on the corporate tax return.
Key Point: You can only deduct the interest on credit card purchases made for legitimate business purposes, not personal reasons.
If you use a credit card for both personal and business transactions, you must prorate the interest. Calculate the deductible business portion based on the ratio of business purchases to total purchases made with the card during the year.
Other Potentially Deductible Interest
While personal credit card interest is not deductible, some other types of interest remain deductible, such as:
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Mortgage interest: You can deduct interest paid on your primary residence and second homes, up to the IRS limits. Points may also be deductible.
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Student loan interest: You can deduct up to $2,500 per year of interest paid on qualified student loans. This deduction is taken as an adjustment to income.
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Investment interest: You can deduct interest paid to earn investment income, such as margin interest on brokerage accounts. The deduction is limited to your net investment income.
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Home equity loan interest: Interest paid on home equity loans and lines of credit can be deductible in certain cases if used to substantially improve your home.
So while the government eliminated the deduction for credit card interest on personal purchases, there are still opportunities to deduct interest paid in other situations.
Claiming the Deduction for Business Credit Card Interest
Claiming a tax deduction for business credit card interest is straightforward. Here are the basic steps:
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Add up the total amount of interest paid during the year on credit cards used solely for business purchases. The interest charges will be listed on your monthly credit card statements.
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Report the total interest amount as an expense on the appropriate business tax form (Schedule C, F, or C-corp return).
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The interest reduces your net business income subject to tax.
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Retain your credit card statements as evidence to support the deduction in case of an IRS audit.
For personal and business combined credit cards, calculate the business portion of interest mathematically based on the business purchase percentage as described earlier.
Limits and Exclusions
When deducting business credit card interest, be aware of these potential limitations:
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Interest relating to tax-exempt business income (like municipal bond interest) is not deductible.
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Investment interest deduction rules apply if the credit card purchases are for investment assets that produce portfolio income.
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The business use requirement limits deductibility. If you used the card for both business and personal transactions, only the business portion of interest is deductible.
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The IRS may flag excessive interest deductions compared to your business income as potentially “personal” interest. Be prepared to prove business necessity.
The Bottom Line
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Personal credit card interest is no longer deductible after the 1986 tax reform law.
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Business credit card interest is deductible if the expenses are ordinary and necessary for your business.
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Partial deductions are allowed on “mixed-use” credit cards that contain personal and business charges based on the ratio of business purchases.
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Interest on student loans, mortgages, and investments may still be deductible.
While personal credit card interest is not deductible, don’t forget about other types of still-deductible interest when filing your taxes. Consult a tax professional if you need assistance in maximizing your available interest deductions.
Frequently Asked Questions
1. Can I deduct interest on credit cards used for investments?
Interest on credit cards used to purchase investments like stocks, bonds, or real estate may be deductible as investment interest. However, special limitation rules apply that restrict the write-off to your net investment income.
2. Are late fees on my credit cards deductible?
Unfortunately, late payment fees on credit cards are not tax deductible, either for personal or business cards. They are treated as nondeductible personal expenses.
3. What if I used a credit card to pay federal income taxes?
Interest on credit cards used to pay personal federal income tax bills is not deductible. However, if you used a card to pay payroll taxes for an employee, that interest would be deductible as a business expense.
4. Can I deduct interest on credit cards used for education?
No, credit card interest related to education expenses is still treated as personal, nondeductible interest. However, up to $2,500 of interest on qualified student loans themselves remains deductible.
5. Are credit card annual fees deductible?
Generally no, credit card annual fees are not deductible because they provide a personal benefit. However, annual fees on true business credit cards used only for business may potentially qualify as deductible business expenses.
The Bottom Line
The government eliminated personal credit card interest deductions in 1986, but business credit card interest remains deductible in many cases. Be sure to only claim deductions for credit card interest relating to legitimate business expenses. Consult a tax professional to fully understand the rules and maximize your available deductions. With proper documentation, business credit card interest can reduce your annual tax bill.
What is a tax deduction?
Imagine you have a piggy bank full of money. This money represents your taxable income. Every time you pay taxes, you take some of the money in the bank to pay the bill. But if you could say, “Hey, I spent some money on work, so I shouldnt have to pay tax on that part” that would be great, right? Thats what ‘deductibility’ is.
According to the Internal Revenue Service (IRS), a tax deduction is an expense that can be subtracted from your income to lower how much you pay in taxes. Tax deductions are a good thing because they can help lower your taxable income, which may also reduce how much you owe in taxes.
Business credit card use may be deductible
If you’re an entrepreneur or have a small business, what’s deductible changes. Suppose you have a pizzeria, and you buy ingredients, equipment, or even advertising with your credit card. The interest on these purchases may be a business expense. And like many business expenses, they can be tax deductible according to the IRS. This means they can reduce your taxable income, and thus the amount of tax you must pay.
To sum up, whether you can deduct credit card interest depends on if the expense you’re paying interest on was a business or personal expense. If it was a business expense, it may be tax deductible, but if the credit card interest was because of a personal expense, you can’t use it as a deduction.