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Tax difference between home repairs & home improvements

End of backyard disappearing stream-resized
The end of the disappearing stream water feature in our backyard. The installation was a home improvement. My work today to shore up a part of it was home maintenance. The differences have tax break implications. (Photo by Kay Bell)

I spent most of today taking care of home repairs that I felt confident doing. It's not a long list. I am not really a do-it-yourself kind of person when it comes to most things around the house.

Still, even though I've worked from home for years, being stuck here more than usual because of the COVID-19 pandemic has made me focus more on some of our property's problem areas.

I have lots of company. Millions of folks who used to go to offices are now working from home. And they, too, are turning some of their attention to home repairs, maintenance and, where they're fortunate enough to have some disposable income, remodeling.

Homeownership means maintenance: My project today focused on backyard landscaping. We have a water feature that is, for me, an aquatic Zen garden. I like to go out and clean debris from the disappearing stream and rearrange the rocks that guide its flow. And it's not always just for fun.

Take today. I noticed that some rocks had shifted, or more likely, one of the many critters that come visit it, like the roadrunner below, dislodged a rock.

Roadrunner at backyard stream Aug102017
Yes, it's a blurry photo. I took it with my phone through a door (that obviously needs cleaning!) and didn't want to get too close and scare off the roadrunner.

That breach made the water in one area start to seep over the mini-river's edge. So I put on my sort-of engineer hat and rebuilt it.

It was a refreshing break, especially since today is sunny with temperatures in the mid-70s. It also was a reminder that all homeowners must take care of things like this all the time. All. The. Time.

But at least, attention to keeping your residence and property in shape will pay off when you sell. And part of that compensation is, you guessed it, tax related.

Tax-free home sale profit: The biggest home-related tax break is the exclusion of profit from taxes when you sell.

A single homeowner can make up to $250,000 on a residential sale and not owe Uncle Sam. The tax-free profits amount is double that for a married, jointly filing couple who sells their primary home.

Of course, we're talking taxes, so things are as simple as those exclusion amounts seem. The Internal Revenue Service enforces the tax code rules about other aspects of your homeownership, like how long you (and your spouse, if married) have owned and lived in the house. These requirements are detailed in IRS Publication 523, Selling Your Home.

But the bottom line is that many homeowners don't have to worry about taxes when they sell their homes.

Many, but not all. A few homeowners, especially those who've owned a house for a long time or who live in an area where home prices have increased dramatically, might exceed or nudge up near that home sale exclusion amount.

That's where home improvements can help.

Improvements vs. maintenance effects on basis: The key here is the difference, in the eyes of the IRS, between home improvements and home maintenance.

Most of the work done on most houses — as well as the property on which your home sits, like my backyard work today — falls into the repair or maintenance category. And under the Internal Revenue Code, repairs, renovations and general maintenance of your personal residence generally are nondeductible personal expenditures.

But home improvements are a different, and more valuable, tax animal. These projects add to your personal piece of real estate's value or prolong the property's life. 

These capital improvements to your home add to its basis. And that adjusted basis of your home is what you use to calculate your eventual profit on the sale of your home. A larger basis means a smaller profit.

Don't freak out. That doesn't mean you'll get less money in hand when you hand over your house keys to the new owners.

Rather, larger home basis is good when it comes to the calculation that determines whether the profit on your home stays under the tax exclusion amount for your filing status.

Acceptable home improvements: Now you and I probably will argue that repairs and maintenance do indeed add value to our homes. But the IRS will remain unpersuaded that such all-the-time upkeep is of tax value.

Instead, Uncle Sam's tax people say general maintenance simply keeps or returns a home and its property to its original good condition. That, I must confess, is true with regard to my landscaping today.

To qualify as a tax-reducing capital improvement to a residence, the work must last for more than one year and add value to your home, prolong its life, or adapt it to new uses.

So what type of work does the IRS accept as a basis-increasing home improvement? The table below from Publication 523 has some improvements suggestions:

Home improvements that increase basisYou'll notice that lawn and grounds are included in your home's capital improvement options. That's why we still have all the records and invoices from the months of work it took for the landscaping company to install our disappearing stream.

That improvement to our previously blah backyard has added to its long-term value. And our house's adjusted basis. My maintenance, like today's work, ensures that value continues.

If you make any of these improvements, hang onto the paperwork and receipts so you can add the amounts to your home's basis.

Pay attention to specific situations: Of course, we are talking taxes, so sometimes the projects can get a little fuzzy.

For example, replacing a few shingles on one area of your roof is a repair. Replacing the whole roof is a capital home improvement. That one cracked window pane? A repair. A whole new window? An improvement.

And, says the IRS, repainting your house inside or outside, fixing your gutters or floors, repairing leaks or plastering are repairs, not improvements.

Also note that some of your home improvements, although totally tax valid, might not count. This is the case where you made an improvement, but that upgrade is no longer part of your home.

This could be the case, says the IRS, if you installed wall-to-wall carpeting in your home 15 years ago, but this year replaced that floor covering with new carpeting or hardwood floors. The older carpeting costs do not count because that flooring is no longer part of your home.

Disaster damages costs: There is one exception, but it's not one any of us want to use. If your home is damaged in a fire or natural disaster, everything you do — even things that normally would be considered simply repairs — to return your home to its pre-loss condition counts as a capital improvement.

Note, however, that when it comes to claiming disaster losses, the Tax Cuts and Jobs Act reform bill that took effect in late 2017 did change the rules. You only get this tax relief if your losses were from a presidentially declared major disaster.

Also note that these rules about improvements vs. repairs apply to costs associated with your personal residence. There are some tax differences when it comes to work on rental and investment real estate.

You can read more about rental property tax issues in Publication 527. I also recommend you talk with a tax expert who's experienced in this area.

In fact, it's a good idea to talk with a tax pro about your personal home's sale and its tax consequences, even if there aren't any, too.

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