Limits on Interest Deduction for First Mortgages

JUNE 2, 2010

Purpose and

effect

Second Engrossed Substitute Senate Bill 6143, Part III (Chapter 23, Laws of 2010, 1st

Special Session) clariﬁes which fees are deductible as interest and which fees are not

deductible as interest. It also provides a limited deduction for the type of servicing fees

that were at issue in HomeStreet, Inc. v. Dept of Revenue, 166 Wn.2d 444 (2009).

Background Under RCW 82.04.4292, persons engaged in banking, loan, security or other ﬁnancial

business may deduct interest received on loans primarily secured by ﬁ rst mortgages

on non-transient residential properties from gross income. In the case of HomeStreet,

the Washington State Supreme Court determined that when a ﬁnancial business sells

qualifying loans and then services those loans for the purchaser, the servicing fee is

deductible from the business and occupation (B&O) tax as interest.

Effective date The effective date is June 1, 2010.

Fees that qualify

for deductible

interest

Financial businesses remain entitled to a deduction for interest on loans or investments

primarily secured by ﬁrst mortgages or deeds of trust on non-transient residential real

property. The following fees also constitute deductible interest.

Points and Loan Origination Fees

Deductible interest includes the portion of fees charged to borrowers, including points

and loan origination fees that are recognized over the life of the loan as an adjustment

to yield in the taxpayer’s books and records according to generally accepted accounting

principles.

Servicing Fees

Deductible interest also includes amounts received for servicing loans primarily secured

by ﬁrst mortgages or trust deeds on non-transient residential properties, including such

loans that secure mortgage-backed or mortgage-related securities, but only if the person

claiming the deduction:

• Originated the loans;

• Acquired the loans through a merger or acquisition of substantially all of the assets

of the person who originated the loans; or

• Is under common control with the person that originated the loans

In addition to the above limitations, the following criteria must be met:

• That person either sold the loans on the secondary market or securitized the loans and

sold the securities on the secondary market; and

• The amounts received for servicing the loans are determined by a percentage of the

interest paid by the borrower and are only received if the borrower makes interest

payments.

What is not Deductible interest does not include:

deductible 1) Fees for speciﬁc services such as: document preparation fees; ﬁnder fees; broker

interest fees; title examination fees; fees for credit checks; notary fees; loan application fees;

interest lock-in fees if the loan is not made; servicing fees; and similar fees

or amounts;

2) Fees received in consideration for an agreement to make funds available for a

speciﬁed period of time at speciﬁed terms, commonly referred to as commitment

fees;

3) Any other fees, or portion of a fee, that is not recognized over the life of the loan as

an adjustment to yield in the taxpayers books and records according to generally

accepted accounting principles;

4) Gains on the sale of valuable rights such as service release premiums, which are

amounts received when servicing rights are sold; and

5) Gains on the sale of loans, except deferred loan origination fees and points,

deductible as previously described are not to be considered part of the proceeds of

the sale of the loan.

For more Visit our website at dor.wa.gov, send an email to dorcommunications@dor.wa.gov, or call

information the Department’s Telephone Information Center at 1-800-647-7706.