In the eyes of the IRS, a home improvement includes any work performed which significantly adds to the value of your home, increases its useful life expectancy, or adapts it to new capabilities. These home improvements consist of:
- New Bathrooms and Kitchens
- Electrical and Plumbing Upgrades
- Decks, Fencing, and Landscaping
- Driveways and Walkways
- New Roofs & Room Additions
You cannot deduct the cost of these home improvements if your home is used purely as a personal residence because they are considered non-deductible personal expenses.
This doesn’t mean there are no tax benefits for making improvements to your home, however. They could help to reduce the amount of taxes you are required to pay when selling your home at a profit because the cost is added to the tax basis of your home. “Basis” is defined as the amount you invested in your home for tax purposes. The higher your basis, the less you profit when selling your home.
To put this into perspective, let’s imagine that you bought a home in 2005 for $400,000 and sold it in 2017 for $700,000. During this timeframe, you made $50,000 worth of home improvements, including a new roof and kitchen upgrade. These will have increased your basis to $450,000. You would subtract the $700,000 selling price from the $450,000 basis to determine your gain from the sale is $250,000. Only this amount is taxed.
You may qualify to exclude up to an additional $250,000 of that gain if you qualify for the home sale tax exclusion.
The most common way for homeowners to increase their basis is through home improvement. If any of those home improvements were later removed from the home, they are no longer applicable to your home’s basis. For example, if you installed a basic privacy fence 10 years ago and then replaced it with a wrought iron fence, the cost of the old fence no longer applies to your home’s basis.
It is possible to depreciate home improvements by deducting the cost over several years (anywhere from three to twenty-seven and a half years). Using your home for something other than a personal residence could help you qualify for home improvement depreciation.
Home Office Deduction – Do You Qualify?
Owning a business and using a portion of the home as an office for it’s purposes is one way of depreciating home improvement costs. It must be a legitimate business and partly used exclusively and routinely for the business in order to qualify.
You can deduct 100% of the cost associated with improvements you make to your home office if you qualify for the deduction. For example, if you used a separate room in your home as a home office and have a carpenter install built-in bookshelves, depreciating the entire cost as a business expense is permissible.
Home improvements can be depreciated based on the percentage used for the home office if they benefit the entire house. For example if 25% of your home is used as a home office, depreciating 25% of the cost in upgrading your air conditioning, heating or electricity use is allowed.
Rental Expense – Does This Qualify?
You can deduct the rental income you receive by renting out a portion of your home. This allows you to depreciate home improvement cost by depreciating it as a rental expense. Similar to the home office deduction, you can depreciate the cost of home improvements in full if they benefit they purely benefit the area of the home being rented. If those home improvements benefit the entire home, are depreciated based on the percentage being used for rental of the house.