What Kind of Home Improvements Are Tax Deductible?

Homeowners often make improvements to their homes for comfort, functionality, or energy efficiency. These upgrades can increase value and livability, and may also offer tax savings. Understanding qualifying improvements and how to claim benefits is important for financial planning. Not all improvements offer tax advantages, but certain projects can lead to deductions, credits, or basis adjustments. This guide clarifies qualifying home improvements and the steps to claim benefits.

Categories of Qualifying Home Improvements

Home improvements offering tax benefits fall into specific categories. Medically necessary modifications are expenses for the medical care of the taxpayer, spouse, or dependent. Examples include installing ramps, widening doorways, modifying bathrooms, or adding handrails for accessibility. These can be included as medical expenses if primarily for medical purposes and do not substantially increase home value. If they do, only the amount exceeding the value increase is considered.

Energy-efficient home improvements reduce energy consumption. Upgrades include solar panels, solar water heaters, or small wind energy systems. Building envelope components like exterior windows, skylights, doors, and insulation may qualify. High-efficiency HVAC systems, water heaters, and biomass fuel stoves also meet criteria for tax credits. To qualify, improvements must be new, placed in service within the tax year, and meet IRS efficiency standards.

Capital improvements add value, prolong useful life, or adapt a home to new uses. Unlike deductions or credits, these are not immediately deductible. Instead, they increase the home’s “cost basis,” which is the original property cost plus capital improvement costs. Examples include adding a room, installing a new roof, replacing plumbing or electrical systems, or major kitchen/bathroom renovations. This basis adjustment becomes relevant when the home is sold, reducing taxable gain.

Understanding the Tax Benefit Mechanisms

Tax benefits for qualifying home improvements are realized through tax credits, itemized deductions, and adjustments to cost basis. Tax credits directly reduce the amount of tax owed, making them valuable. The Residential Clean Energy Credit provides a credit for renewable energy improvements, such as solar electricity or water heating property, typically at 30% of the cost with no dollar limit. The Energy Efficient Home Improvement Credit offers a credit for specific energy-efficient upgrades, generally 30% of the cost, subject to annual limits. For example, a maximum annual credit of $1,200 applies to most energy-efficient property, with specific sub-limits for items like windows and doors, and a $2,000 limit for qualified heat pumps or biomass fuel stoves.

Medically necessary home improvements are treated as medical expenses and can be itemized on Schedule A (Form 1040). Taxpayers can deduct medical expenses exceeding 7.5% of their adjusted gross income (AGI). Only the portion above this AGI threshold reduces taxable income. For example, if AGI is $100,000, expenses exceeding $7,500 are deductible.

Capital improvements increase a home’s cost basis, affecting capital gains or losses upon sale. A higher cost basis reduces the difference between sale price and adjusted basis, lowering taxable capital gain. For example, if a home was purchased for $200,000 and $50,000 in capital improvements were made, the adjusted basis becomes $250,000. If the home is later sold for $400,000, the capital gain would be $150,000 ($400,000 – $250,000), rather than $200,000 if no improvements were accounted for. This basis adjustment is relevant with the primary residence capital gains exclusion. Single filers can exclude up to $250,000 of gain, and married couples filing jointly can exclude up to $500,000 of gain from a home sale, provided ownership and use tests are met under Internal Revenue Code Section 121.

Required Documentation and Record Keeping

Thorough documentation is essential for substantiating home improvement tax benefits. Homeowners should retain all proof of expense, including invoices, receipts, and contracts detailing the work performed and costs incurred. Keep canceled checks, bank statements, or credit card statements as proof of payment. These records provide verifiable evidence of money spent on qualifying projects.

Beyond financial records, document the improvement’s specifics. This includes a clear description of its nature, purpose (e.g., medical necessity or energy efficiency), and the date it was placed in service. If a contractor performed the work, record their contact information, including name, address, and EIN or SSN. This information helps establish that the improvement meets specific criteria for a tax benefit.

For capital improvements that adjust a home’s cost basis, record keeping needs to be diligent and long-term. Since these improvements affect the calculation of gain or loss upon sale, records supporting the adjusted cost basis should be kept indefinitely. This includes all documentation related to the original purchase of the home and every subsequent capital improvement. Accurate and complete records are crucial for calculating the correct taxable gain or loss when the property is sold.

Claiming Your Home Improvement Tax Benefits

Claiming tax benefits for home improvements involves reporting qualifying expenses on the appropriate tax forms when filing your annual tax return. For energy-efficient home improvement credits, taxpayers generally use Form 5695, Residential Energy Credits. This form calculates the total credit based on the cost of qualifying improvements. The resulting credit amount is then transferred to Schedule 3 (Form 1040), Additional Credits and Payments, which ultimately reduces the taxpayer’s overall tax liability.

Medically necessary home improvements are reported as part of itemized deductions. These expenses are aggregated with other qualified medical expenses on Schedule A (Form 1040). The total amount of medical expenses, including home modifications, is then subject to the adjusted gross income threshold before any deduction can be taken.

Capital improvements are not claimed annually but are factored in when the home is sold. When a home is sold, the gain or loss is typically reported on Form 8949, Sales and Other Dispositions of Capital Assets, and then summarized on Schedule D (Form 1040), Capital Gains and Losses. The adjusted cost basis, which includes the cost of capital improvements, is used in these calculations to determine the taxable gain. Given the complexities involved in claiming these benefits and the specific documentation required, homeowners may find it beneficial to consult with a qualified tax professional.