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Financial Focus/Can Home Improvements
by Edward Jones
Your home probably will be the biggest investment you ever make. And, in many ways, it’s an investment that will reward you. For one thing, most homes tend to appreciate over time. Furthermore, your house can give you something you always need - tax benefits.
Of course, you already know that your mortgage interest is tax-deductible. But you may not have realized that home improvements, under some circumstances, can also help you at tax time.
The clearest tax benefits resulting from home improvements can be achieved through a home-equity loan used to pay for these improvements. You can generally get this type of loan at a competitive rate, and, more importantly, the interest on the loan may be tax-deductible. Keep in mind, however, that when you take out a home equity loan, you’re pledging your house as collateral. That’s why you have to be sure you can afford the loan payments.
If you don’t take out a home equity loan to pay for home improvements, are they still tax deductible? They could be. If you run a business from your home, of if you rent out part of it, then part of your home improvements may be considered business expenses, and you can deduct them through depreciation. You’ll need to be cautious, however, about what you claim - the IRS may have different definitions of “business expenses” than you do. Your tax advisor can help you make the right decisions.
If you don’t use your home to operate a business, and you have no renters, then your home improvements are typically not tax deductible - but they can help you from a capital gains standpoint.
Basically, your capital gains are the difference between your house’s cost basis” - its value at the time you purchased it - and the price for which you sold it. So, if you bought your house for $100,000, and you sold it for $300,000, you’d have a capital gain of $200,000. But home improvements can add to the cost basis of your home. Suppose you added a deck, outdoor lights and a sun room, and you completely modernized your kitchen. Together, these improvements increased the cost basis of your home to $200,000. Now, if you were to sell the house for $300,000, you’d only have a $100,000 capital gain - half of what it was before your home improvements.
Actually, either capital gain - $100,000 or $200,000 - might be irrelevant, because you can generally exclude up to $500,000 of capital gains on a house sale, as long as you’re part of a married couple filing jointly. If you’re a single filer, you can exclude $250,000. (To qualify for this exclusion, you must have used the home as your principal residence at least two out of the five years preceding the sale.)
Given these high exclusion figures, is it even worthwhile to think about the impact of out-of-pocket home improvements on your tax situation? Yes - because you never know. If you stay in a house for a very long time, and if you live in an area in which housing prices steadily go up, then you may someday find yourself bumping up against the capital gains limits. If that happens, you’ll be glad you invested in the garage, the gazebo, the patio and the porch.
This article was submitted by the financial representatives of Edward Jones in Hagerstown: Greg Garner, 301-733-9465; Dave Walker, 301-766-7300; and Joan Bowers, 240-420-8514.
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