Can Home Improvements Be Tax Deductible?

Home improvements can enhance your living space and add value to your property. While many homeowners hope these upgrades lead to immediate tax deductions, improvements to a personal residence are generally not directly deductible in the year they are made. However, specific situations allow home improvements to provide tax benefits, such as credits, deductions, or adjustments to your home’s cost basis. Understanding these circumstances helps realize potential tax savings from your investment.

Capital Improvements and Your Home’s Basis

Capital improvements are enhancements that add value to your home, prolong its useful life, or adapt it to new uses. These are distinct from repairs, which maintain the home’s current condition. Examples of capital improvements include adding a new room, replacing a roof, installing a new heating and air conditioning system, or making renovations to a kitchen or bathroom. In contrast, repairs might involve fixing a leaky faucet or repainting a wall.

Instead of an immediate tax deduction, the cost of capital improvements increases your home’s “cost basis.” The cost basis is your original purchase price plus the cost of qualified improvements. This increased basis is important because it reduces the taxable capital gain when you sell your home.

Profit from the sale of a primary residence is excluded from taxable income up to a certain amount under Internal Revenue Code Section 121 for most homeowners. This exclusion allows single filers to exclude up to $250,000 of gain and married couples filing jointly to exclude up to $500,000 of gain, provided they have owned and used the home as their primary residence for at least two of the five years preceding the sale. If your capital gain exceeds these exclusion amounts, a higher cost basis from improvements can help reduce or even eliminate the remaining taxable gain. Keeping detailed records of all capital improvement expenses is important, as these will be needed when you sell the property.

Energy-Efficient Home Improvements

The federal government offers tax credits for certain energy-efficient home improvements. These tax credits directly reduce the amount of tax you owe, dollar for dollar, rather than reducing your taxable income. You will use Form 5695, Residential Energy Credits, to claim these benefits.

The Energy Efficient Home Improvement Credit covers 30% of the cost of qualified expenses. This credit has an annual limit of $1,200 for most improvements, with sub-limits for items: $250 per exterior door (up to $500 total), $600 for exterior windows and skylights, and $150 for home energy audits. An additional annual limit of $2,000 applies to qualified electric or natural gas heat pumps, heat pump water heaters, and biomass stoves or boilers. These improvements must meet efficiency standards.

The Residential Clean Energy Credit applies to renewable energy property such as solar panels, wind turbines, and geothermal heat pumps. This credit covers 30% of the installation costs and has no upper dollar limit, remaining effective through 2032. To claim these credits, you must have the improvements installed in your primary residence. Keep records such as manufacturer’s certification statements and receipts to support your claim.

Home Improvements for Medical Care

Certain home improvements made primarily for medical care can be included as medical expenses. These modifications must be for the taxpayer, spouse, or dependent’s medical care. Examples include constructing entrance or exit ramps, widening doorways, installing grab bars, or modifying bathrooms and kitchens for accessibility.

The amount you can include as a medical expense is limited to the cost of the improvement that exceeds any increase in your home’s value due to the improvement. If the improvement does not increase the home’s value, the full cost can be included. These expenses are claimed as an itemized deduction on Schedule A (Form 1040), and only the amount exceeding 7.5% of your Adjusted Gross Income (AGI) is deductible. Careful documentation is necessary, including proof that the improvement was primarily for medical purposes and its cost.

Home Improvements for Business Use

When a home is used for business purposes, the tax treatment of improvements differs from those made for personal use. For a rental property, improvements are depreciated over their useful life, rather than being immediately deducted as an expense. Residential rental property is depreciated over 27.5 years.

In contrast, routine repairs to a rental property, which restore it to its original condition without adding value or extending its useful life, are deductible in the year they are incurred. Land cannot be depreciated; only the building and its fixtures are eligible. Rental income and expenses, including depreciation, are reported on Schedule E (Form 1040).

For a qualified home office, a portion of home improvements can also be depreciated. This applies if part of your home is used exclusively and regularly for business. The deductible amount is based on the percentage of your home’s square footage used for the home office. Expenses for business use of your home are figured on Form 8829 and reported on Schedule C (Form 1040).

Documenting Your Home Improvements

Regardless of the type of home improvement or the tax benefit you hope to claim, thorough record-keeping is important. The Internal Revenue Service (IRS) requires documentation to substantiate any credits, deductions, or adjustments to your home’s cost basis. Without proper records, you may face challenges if your tax return is reviewed.

Retain all receipts and invoices for materials and labor for your home improvement projects. Contracts with contractors, canceled checks, or other payment proof should also be kept. For certain improvements, such as those for medical care or energy efficiency, additional documentation is needed; this might include before-and-after photographs, manufacturer’s certification statements for energy products, or letters from doctors confirming medical necessity.

Record the dates when improvements were made. These records will be important for calculating your home’s basis when you sell it, or for claiming eligible tax credits and deductions. Organizing and storing these documents safely can save effort and issues in the future.