Renovations are a great way to improve the function and beauty of your home, as well as to increase your property value.
But did you know that certain home improvements can also get you tax benefits? While not every renovation qualifies for a tax break, understanding which upgrades might provide financial perks can make a big difference at tax time.
Energy-Efficient Upgrades
If you’re considering energy-efficient upgrades like installing solar panels, geothermal heat pumps, or energy-efficient windows, you might be eligible for federal tax credits. The Inflation Reduction Act of 2022 extended and expanded these credits, allowing homeowners to claim up to 30% of the cost of qualifying improvements.
Good to Know
A tax credit directly reduces the amount of tax you owe, dollar for dollar. For example, a $1,000 tax credit lowers your tax bill by $1,000.
A tax deduction, on the other hand, reduces your taxable income. It lowers the portion of your income that is subject to tax, potentially reducing your tax liability based on your tax bracket. For instance, if you're in the 22% tax bracket, a $1,000 deduction reduces your taxes by $220.
Pro Tip: Keep your receipts and documentation to claim these credits when filing your taxes.
Home Office Renovations
If you work from home, you may be able to deduct expenses related to creating or upgrading a home office. To qualify, the space must be used exclusively and regularly for business purposes. This means the space cannot be used for personal activities and must be a clearly defined area dedicated solely to work.
You can deduct a portion of expenses, such as flooring, paint, and built-in storage, based on the percentage of your home that the office occupies.
Good to Know
There are two methods for claiming the home office deduction:
Simplified Method: Allows you to deduct $5 per square foot of your home office, up to a maximum of 300 square feet.
Actual Expenses Method: Lets you calculate the deduction based on actual expenses, such as mortgage interest, utilities, repairs, and depreciation, prorated based on the percentage of your home used for business.
Pro Tip: Just be sure to keep detailed records and only claim legitimate expenses to avoid IRS scrutiny.
Medical Home Improvements
Renovations made for medical purposes can also provide tax savings. If you or a family member has a medical condition that necessitates specific home modifications—like wheelchair ramps, widened doorways, or stairlifts—you may be able to deduct these expenses as medical costs. To qualify, the modifications must primarily benefit the person with the medical condition and not increase the home’s value.
Good to Know
Before claiming medical home improvements as a deduction, ensure the expense meets the IRS’s definition of a qualified medical expense. This includes modifications primarily intended to accommodate a medical condition, such as installing wheelchair ramps or widening doorways. However, only the portion of the expense that exceeds the increase in property value may be deductible. Consult a tax professional to accurately calculate and document these costs.
Pro Tip: Ask your doctor for a prescription or Letter of Medical Necessity to substantiate your claim. Keep invoices and receipts for qualifying and non-qualifying expenses separate when filing your taxes. It’s also a good idea to take before and after photos just in case your claim is questioned.
Rental Property Improvements
If you own a rental property, certain renovations can be deducted as business expenses. Repairs that maintain the property’s condition can be deducted in the year they’re completed. Improvements that add value, prolong the property’s life, or adapt it to a different use must be depreciated over several years, so consult with a tax professional to understand the implications.
Good to Know
The distinction between repairs and improvements for rental properties is key when claiming deductions:
Repairs are expenses incurred to maintain or restore the property to its original condition. Examples include fixing a leaky roof, patching drywall, or replacing a broken window. Repairs are typically deductible in the year they are made as they are considered necessary for maintaining the property.
Improvements are expenses that add value, extend the life, or adapt the property for a new use. Examples include installing a new HVAC system, adding a deck, or upgrading the kitchen. These must be capitalized and depreciated over several years, rather than deducted in a single year.
The IRS typically requires improvements to be depreciated over 27.5 years for residential rental properties. However, some improvements may qualify for bonus depreciation or Section 179 expense, allowing faster write-offs.
Pro Tip: Keep detailed receipts and supporting documentation for rental property improvements to substantiate your expenses and accurately calculate depreciation.
Capital Improvements
Some renovations may qualify as capital improvements, which can increase your home’s cost basis and potentially reduce capital gains taxes when you sell. Capital improvements include projects that add value, extend the property’s life, or adapt it to new uses—like adding a new room, upgrading the HVAC system, or installing a new roof.
Good to Know
Cost basis is the original value of a property, adjusted for improvements, depreciation, and certain expenses. It serves as the starting point for calculating capital gains or losses when the property is sold.
For example, if you purchase a rental property for $200,000 and later spend $20,000 on capital improvements (like a new roof or kitchen remodel), your cost basis increases to $220,000. When you sell the property, this higher basis can reduce your taxable gain.
Pro Tip: Keep detailed records of all qualifying expenses to accurately calculate your cost basis when the time comes to sell.
While not every home renovation will provide tax benefits, strategic upgrades can offer financial rewards beyond improved aesthetics or functionality. Always consult with a tax advisor to ensure you’re maximizing potential deductions and credits based on your specific situation.
The tax professionals at AMG Finance are available year-round to assist you with questions concerning the tax benefits of home improvements. If you’re thinking about renovating your home, schedule an appointment with the tax experts at your local AMG Finance first.
