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The IRS might impute the difference between that rate and market rate as income and tax your mother accordingly.

From what I'm reading, I don't think so.

"provision could cause disaster victims to have to recognize as
taxable income the amount of interest she is not paying because her below
market interest rate is below a minimum specified interest rate. 164 Fortunately
for disaster victims any loans "subsidized by the Federal, State (including
District of Columbia), or Municipal government (or any agency or
instrumentality thereof), and which are made available under a program of
general application to the public" are exempt from the requirement to include
imputed interest in gross income. 165


165. Prop. Regs. § 1.7872-5T(b)(5). "

One other item to note is *if* could use the mortgage interest deduction before, it would not apply to this loan as the loan is not backed by the property. (that's a big "if" - many people don't itemize, and the mortgage interest deduction is irrelevant)
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