Are Home Equity Investment Proceeds Taxable? What to Know

Usually not when you receive it. The companies that address taxes treat the cash from a home equity investment as generally not taxable income. Unlock doesn’t even issue a 1099 for it.

The harder questions come later, when you settle. We couldn’t find any IRS guidance that names home equity investments, so that part is worth a conversation with a tax pro before you sign.

What each company says about taxes

None of them give tax advice. But a few go further than “ask your advisor,” and what they say lines up.

So two companies come right out and say the cash generally isn’t taxable income, and a third compares it to a traditional mortgage. Nobody claims it’s taxable.

Why the cash usually isn’t income

You aren’t earning that money. You’re handing a company a claim on part of your home’s future value in exchange for cash now.

Some companies write the deal as an option. Splitero calls its contract an Option Purchase Agreement, and Point’s agreement lets it exercise its option if you don’t settle by the end of the term.

Here’s the honest gap, though. The IRS rules for options in Publication 550 are written for options on stocks, securities and commodities, not a share of a house. We couldn’t find anything from the IRS that addresses home equity investments by name.

So the companies’ view is a reasonable starting point. It isn’t an IRS ruling.

Taxes when you settle

This is where it gets less clear.

If you settle by selling the home

A home sale follows the usual rules in IRS Publication 523. You may exclude up to $250,000 of gain from the sale of your main home, or $500,000 for a married couple filing jointly. To qualify, you generally need to have owned the home and lived in it for at least 24 months of the last 5 years.

Your gain starts with the amount realized, which is the sale price minus selling expenses like commissions and legal fees. The open question is how the payment to the HEI company fits into that math. Publication 523 doesn’t say.

For a lot of homeowners, it won’t matter. If your gain is under the exclusion either way, there’s nothing to tax.

Here’s when it does matter. Say you’re single, you bought for $250,000, and you sell for $650,000 with $35,000 in selling costs. That’s a $365,000 gain before anything else, which is $115,000 over your $250,000 exclusion. Whether the HEI settlement reduces that number could swing your tax bill, so that’s the question to bring a tax pro.

If you settle with savings or a refinance

No sale happens, so the home sale exclusion doesn’t come into it. You’re paying the company its share and keeping the house.

How that payment is treated for tax purposes, whether as a cost you can ever recover or nothing at all, isn’t spelled out by any company or IRS publication. Expect it to be a personal expense unless a tax pro tells you otherwise.

Can you deduct the cost of an HEI?

Probably not as mortgage interest.

IRS Publication 936 defines home mortgage interest as interest you pay on a loan secured by your home. An agreement like Unison’s carries no interest at all. With no interest, the mortgage interest deduction doesn’t fit.

Splitero’s comparison to a traditional mortgage is the one wrinkle. That’s a good reason to ask Splitero, and your tax pro, exactly what it means for your agreement before you assume anything.

Using the money in a business or a rental? Then ask whether any of the cost could be deductible there. That’s a real question for your situation, not a yes.

The taxes you still pay

An HEI doesn’t change who pays the property tax. You do.

Hometap isn’t responsible for your taxes or insurance, and with Splitero you stay responsible for property taxes, insurance and HOA dues. Hometap also requires timely mortgage, insurance and property tax payments during the term.

Some taxes show up in closing costs, too. At Hometap, government recording and transfer charges run $370 to $1,000, set by your county. Unison includes state taxes in its settlement costs of $700 to $1,750.

Divorce, death and taxes

Two life events come with their own tax rules, and both connect to an HEI.

In a divorce, IRS Publication 504 says no gain or loss is recognized on a transfer of property to a spouse, or a former spouse if it’s incident to the divorce, even if the transfer is in exchange for cash. If you’re using an HEI to buy out a spouse, our guide to an HEI divorce buyout walks through the rest.

If you die, your heirs generally take a basis equal to the home’s fair market value on the date of death, under Publication 523. That can shrink the gain if they sell soon after. What happens to the agreement itself is covered in what happens to an HEI if you die.

Who should get a tax pro involved

You may not need one if you’re settling by selling your main home and your gain will clearly land under the exclusion. Everyone else should at least ask.

What to bring to a tax pro

Still comparing companies? Our home equity investment pros and cons covers the costs that matter more than taxes for most people, and our company comparison lines up the terms.

Bottom line

The cash you receive from a home equity investment generally isn’t taxed as income, based on what Unlock and Unison say and how the industry structures these deals. What you pay at settlement probably isn’t deductible as mortgage interest.

Bottom line: for most people selling a main home under the exclusion, taxes won’t be the deciding factor. For bigger gains, rentals and business use, get a tax pro to read your agreement before you sign.

HEI tax questions, answered

How we put this together

This guide is Banks Done Right’s editorial view. It draws on the tax answers Unlock, Unison, Splitero, Point and Hometap publish, plus the IRS publications on selling a home, mortgage interest, divorce and investment income. A search for IRS guidance that names home equity investments turned up nothing.

The sale example uses round numbers we picked to show when the question matters. It isn’t a calculation of anyone’s tax.

Sources