Potential Tax Implications of Home Improvements

March 24, 2017

Homeowners generally renovate or make improvements to their homes to increase their own enjoyment of the property, and to hopefully increase its value. They may also wonder whether there any tax implications as a result of the projects. While it’s important to discuss the specific situation with a tax professional or CPA, here are a few areas where taxes may play a role in home improvement.

Home Improvement Expenses
While the cost of home improvements to a primary residence cannot generally be deducted in the year the expenses are incurred, it may be possible to use them to offset any capital gains owed when it comes time to sell the property.

Most people don’t end up owing taxes on the profit made when selling their homes due to an exclusion of up to $250,000 for tax year 2016 (or $500,000 for married couples filing jointly) for a property that they owned and used as a primary residence for at least two of the previous five years.

If the profit exceeds those numbers it may be possible to offset them by the amount invested in improving the home over time, but it is important that those expenses are well documented.

Energy Efficient Home Improvements
There are Federal Income Tax Credits available specifically for home improvements that reduce energy consumption. The credits vary by product and from year to year so it’s important to carefully review the details before beginning a project. For example, according to energystar.gov for tax year 2016 solar energy systems may qualify for a federal income tax credit of 30 percent of the cost. Currently these credits are expected to remain at 30 percent through 2019, decrease to twenty-six percent in 2020, then twenty-two percent, in 2021, and expire at the end of the 2021 tax year.

Property Taxes
When updates, improvements, or additions to a home add to its value, this may result in a higher property tax bill. How property valuation is handled varies by jurisdiction. The property value may be evaluated every few years on a set schedule, when a home is sold and ownership changes, or a re-valuation could be trigged when permits are issued for renovations.

Financial Considerations for Renovations
The impact on taxes is rarely the key factor when deciding whether or not to make improvements on your home. Homeowners are generally focused on whether the project will increase the property value, so that when they sell the home in the future some or all of the amount invested in the renovations are recouped. There is a lot that goes into making this determination such as:

    • The condition of the home. A property in need of serious repairs or a real “fixer upper” has a greater potential for increasing in value than a pristine house already in excellent shape.
    • The other homes in the neighborhood. There is often a high point in terms of price range in a specific area. Even if your home is much larger than all the other homes, or has many additional features and upscale upgrades, it is traditionally unlikely to sell for substantially more than others nearby.
    • The cost of the renovation. In some cases it would be so expensive to make all the changes and improvements you would like in a property that it is unlikely to add a high percentage of that amount to the home’s value. In these cases it can be smart to look at real estate listings to see if it might make more financial sense to buy a new home that already has all the features you want.

Be sure to discuss the many renovation loan options with your clients looking to finance home improvement projects. Learn more at afrwholesale.com.

Photography by [Ricardo Reitmeyer] © shutterstock.com

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