Pointing the Way through Section 461(g): The Deductibility of Points Paid in Connection with the Acquisition or Improvement of a Principal Residence

This article seeks to illustrate and clarify the law in the area of federal income tax and “qualified residence interest” by examining the limitations on the ability of individual taxpayers to deduct prepaid interest under section 461(g), with an emphasis on points relating to the acquisition or improvement of a principal residence. First, it outlines the relevant statutory provisions concerning the deduction for interest paid by individuals and the limitations imposed on the deduction of prepaid interest under section 461(g). In particular, it examines the circumstances surrounding Congress\u27s enactment of section 461(g). Second, this article considers the relevant case law and administrative pronouncements defining the scope of the provision, especially section 461(g)(2), as it affects individuals. In this context, it notes that Congress could alleviate some confusion in this area by amending section 461(g)(2) to conform more closely with section 163(h), insofar as interest or points relate to indebtedness incurred to acquire, construct, or substantially improve a principal residence. Finally, this article analyzes the Internal Revenue Service\u27s recently articulated position in Revenue Procedure 92-12, which creates a safe harbor for the deduction of points paid in connection with the acquisition of a principal residence. The article concludes that the elements defining this safe harbor are largely consistent with prior authorities, yet contain several ambiguities that may undermine the predictability, and hence usefulness, of the Internal Revenue Service\u27s safe harbor test. It argues that such ambiguities should be resolved in a manner consistent with existing law. Moreover, it emphasizes that the safe harbor itself is not exclusive, and identifies those situations in which prepaid interest, not meeting the requirements of the safe harbor, remains deductible