Which Home Renovations are Tax-Deductible?: Your Guide to Capital Improvements

Capital improvements increase your home’s value and appearance — while lowering the amount of taxes you owe when you decide to sell.

What exactly is a capital improvement?

According to the IRS, a capital improvement is any upgrade made to your property that does at least one of the following:

• Increase the property’s value

• Extends the life of the property

• Adapts the property for a new purpose

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How do capital improvements affect your taxes?

When you make a capital improvement, the cost of the improvement is added to the cost basis of your house, which is essentially what you paid for the home plus the cost of any upgrades. When you sell your house, the cost basis becomes significant.

To calculate your profit, deduct the cost basis from the final sale price and pay capital gains tax on the difference.

For example: Say you bought your home for $400,000 and made a slew of capital improvements totaling $100,000. Now, your cost basis in the home is $500,000.

When you sell, you find that your home has increased in value and you manage to get $750,000 for the house. Your profit, after subtracting the cost basis, amounts to $250,000.

Single filers can deduct up to $250,000, while married couples can deduct $500,000 in capital gains on the sale of a principal property. You would avoid paying capital gains tax on your earnings in the case above.

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Capital improvements vs necessary Repair

It is important to distinguish between a necessary repair and a capital improvement. In general, a repair is something you would perform to keep your home in good condition.

A capital improvement, on the other hand, is anything that adds value to the property.

Check out the chart below to get a better picture of what counts as a capital improvement:

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5 capital improvements to consider

As a homeowner, you're likely to explore capital improvements that increase the value of your property while also making it more functional. Here are five home upgrades that can improve its appearance and potentially increase its worth.

Home Additions

Adding new rooms—including bedrooms, bathrooms, home offices, or other facilities—to a property is a permanent improvement that can increase its value, which typically falls under the capital improvement umbrella.

Heating and Air Conditioning Systems

You may deduct any costs expended towards the installation of a new heating system, central air-conditioning system, water filtration system, a central humidifier or even a fireplace.

Kitchen Remodel

Upgrading your kitchen with new cabinetry, appliances, flooring, or adding counter space can raise the value of your property.

Adding a Swimming Pool

Adding an inground swimming pool is considered a capital improvement. If you reside in a warm area, having a pool can add significant value to your property.

Major Plumbing Improvements

Plumbing additions like fitting a new water heater, installing a septic tank or attaching a soft-water filter system are considered permanent improvements to the home, according to the IRS.

Paying for Capital Improvements

When it comes to paying for capital upgrades, you have various options. Because these upgrades boost the value of your property, you may be able to get favorable financing terms when using home improvement loans.

Take a look at some of the various options below:

If you have any questions about which home renovations qualify for a tax break and which capital gains provide the best return, feel free to reach out!