How Are Rising Interest Rates Affecting Personal and Business Taxes?
Rising interest rates have become a key tool for central banks trying to restore balance. Beyond their obvious impact on borrowing costs, higher rates quietly reshape how individuals and businesses manage their taxes. From deductions to investment strategies, the ripple effects of interest rate hikes can influence both short-term decisions and long-term financial plans.
How Interest Rates Affect Personal Taxes
- Mortgage Interest Deduction Shrinks or Grows
Higher interest rates generally mean larger mortgage interest payments for new loans or variable-rate mortgages. For taxpayers who itemize deductions, this can increase the mortgage interest deduction, potentially reducing taxable income. However, higher payments can also strain finances, especially if overall debt increases. - Reduced Homebuying Activity
As mortgage rates rise, home affordability decreases, leading to fewer home sales. This may indirectly reduce the number of taxpayers who itemize deductions, since the standard deduction becomes more attractive when mortgage interest payments are lower. - Student Loan Interest Deductions May Be Limited
While most federal student loans have fixed rates, private loans and newer federal loans might carry variable rates. Rising rates increase interest costs, but the IRS caps the student loan interest deduction at $2,500. So, even if you pay more in interest, your deduction might not increase. - Tax-Advantaged Savings Accounts Become More Attractive
Rising rates often mean better returns from savings accounts, CDs, and money market funds. While the interest earned is taxable, it also incentivizes the use of tax-advantaged accounts like IRAs and 401(k)s, where interest can grow tax-deferred or tax-free.
How Interest Rates Affect Business Taxes
- Higher Interest Expenses—But Not Always Fully Deductible
Businesses typically benefit from deducting interest on loans, but since the 2017 Tax Cuts and Jobs Act, the IRS limits this deduction for larger businesses to 30% of adjusted taxable income (with some exceptions). As interest rates rise, companies with significant debt may hit this cap and lose out on deductions. - Lower Capital Investment
When borrowing becomes more expensive, businesses may delay or cancel plans to invest in new equipment or expansion. This reduces opportunities for claiming tax incentives like depreciation, Section 179 expensing, or bonus depreciation. - Cash Flow and Tax Planning Becomes More Complex
Businesses must balance rising debt service costs with their tax obligations. Strategic planning becomes essential, as companies may need to reassess the timing of income and deductions, evaluate leasing versus buying, or refinance debt to manage tax liabilities. - Changes to Deferred Tax Assets and Liabilities
Companies with deferred tax assets (e.g., from net operating losses) or liabilities (e.g., from accelerated depreciation) must reassess the present value of these items when discount rates change. Higher interest rates may decrease the value of future tax deductions.
Takeaway
Rising interest rates do more than raise the cost of loans—they also affect the tax landscape in subtle but meaningful ways. Whether you’re a household managing debt or a business weighing capital investments, staying ahead of these changes can help you protect your bottom line. A proactive tax strategy—tailored to today’s interest rate environment—can make a measurable difference.
Next Steps:
- Consult with a tax advisor or CPA to review your deductions and liabilities considering current rates.
- Revisit your investment, borrowing, and savings strategies.
- Stay informed on potential tax law changes, especially those affecting interest deductibility and inflation adjustments.
At Davis & Hodgdon, we do more than prepare tax returns—we partner with our clients to build customized tax strategies that align with their financial goals. As interest rates and tax laws continue to shift, we’re here to help you make informed decisions that minimize your tax burden and take full advantage of available opportunities.
Whether you’re managing current challenges or planning for the future, our team offers proactive guidance and deep expertise every step of the way. From straightforward filings to complex planning, we’re here to help you keep more of what you earn—and avoid unwelcome surprises.
Contact us today to learn how we can support your financial goals with smart, strategic tax planning.
