As a homeowners, you can raise the basis or cost of your home by spending money on capital improvements. If you find yourself in a capital gain situation when you sell your home, raising you basis can help save you money on capital gain taxes.
Sometimes people are confused about what constitutes a capital improvement. An Improvement must add value to your home, prolong its useful life or adapt it to new uses. Repairs are routine in nature to maintain the value and keep the property in an ordinary, operating condition.
Adding additional living space by finishing off a walk up attic, putting on a deck or building an addition are examples of capital improvements. Replacing a roof, appliances or your heating system would be considered to extend the useful life of the home and are classified as repairs.
Here’s a simple idea that could save you money years from now.
Every time you spend money on your home other than the house payment and the utilities, put the receipt or canceled check in an envelope labeled “Home Improvements.” Regardless of whether you know if the money would be classified as maintenance or improvements, the receipt or cancelled check goes in the envelope. (Or if you’ve gone paperless, scan the receipt and put it in Evernote.)
Years from now, when you’ve sold your home and you need to report the gain on the property, you or your accountant can go through the envelope or Evernote file and determine which of the expenditures will be adjustments to your basis.
Some people disregard this idea because of the generous exclusion allowed on principal residences. At the unknown point in the future when you sell your home, circumstances may have changed and the proof of these expenditures will be valuable. The tax laws could lower the exclusion amount or eliminate it altogether. Your marital status may change because of death or divorce. The market value of your home may skyrocket.
Since the future is unknown, it is better to keep track of the improvements as they are made and how much is spent on them. Download an Improvement Register and examples or read more in Publication 523 on Increases to Basis.