Tax Implications of Home Improvements

Thinking about home improvements to wrap up 2013? Get the most from your renovation dollars by focusing on the biggest return on your investment. Properly planning investments in home improvements not only makes sense from a lifestyle standpoint, but you can sometimes reap tax savings as well. Please consider the following ideas…

The Residential Energy Efficiency Tax Credit, originally expired in 2011, was retroactively renewed this year thanks to the American Taxpayer Relief Act.  The credit includes an unlimited 30% credit (a direct reduction of federal tax) of the cost of qualified energy efficient property (solar electric, solar water heating, small wind turbines, and geothermal heat pumps).

In addition to the credit for qualified property, there is a credit for qualified energy efficient improvements installed in 2013.  The credit for qualified improvements is limited to $500. Qualified improvements include insulation, windows and skylights, exterior doors, heating and cooling systems (non-solar), and water heaters (non-solar).

Please note that the rules for what qualifies are very specific so your contractor should be able to assist with selecting qualifying property for either the property or improvement credit.

Now that you’ve decided to go ahead with an energy efficient home improvement, what are your financing options?  A home equity loan or line of credit (HELOC) is an attractive option because the interest rate will be more favorable than other alternatives due to the high quality of the collateral.  Generally, interest on home equity loans is fully deductible for tax purposes if the loan is used to substantially improve the residence.  If the property is not substantially improved, interest on the home equity loan or HELOC is deductible but may be capped at the interest equivalent on $100,000.

The rules regarding deductibility of interest on loans used to improve the residence are subject to several overall limitations based on the value of the home, the adjusted basis of the home, and an overall limit on the amount of debt.  So it’s best to talk to your advisor before tapping into your home equity to make improvements to your home.

Samuel L. Hemmeter, CPA, MT