If you took advantage of the home improvement tax credit offered by the federal government for the 2010 tax year, it could have been a significant chunk of change depending on the home improvements you undertook. That's the good news. The bad news lies in the fact that the tax credit has been reduced significantly for the 2011 tax year. That means you can still do home improvements that qualify this year, but the tax credit is not going to be nearly as much. If you itemize on your tax return even a small credit is better than no credit.
Traditionally, the home improvement tax credit is applied to improvements made in your home that make it more energy efficient. In fact, that's the reason the credit was created by the federal government to begin with. As the thinking goes, more energy-efficient homes will use less energy, be more eco-friendly, and help America depend less on foreign oil. Types of home improvements that qualify for the tax credits include:
- installing energy-efficient water heaters and furnaces
- replacing windows and doors
- insulating attics and basements
Changes to the Credit for 2011
There are two significant changes to the home improvement tax credit for the 2011 tax year. The first change has to do with the total monetary amount of the credit. In 2010 the credit was given at a rate of 30% on the first $5,000 spent on qualifying materials. The total amount of the credit was capped at $1,500. For 2011 those numbers have been reduced to 10% and a cap of $500. That's quite a significant reduction. In fact, with a maximum credit of $500 many people might consider their home improvements a financial loss and won't spend the money.
The other significant change to the credit involves certain restrictions that apply beginning this year. The first of those restrictions states that the credit can only be applied to improvements on a principal residence you already own. In other words, landlords cannot apply it to rental property, homeowners cannot apply it to newly built homes, and renters cannot apply it even if they pay for home improvements themselves.
The second restriction stipulates that the tax credit cannot be given to you in the form of a refund. The best it can do is reduce your tax liability to zero. Essentially what that means is that if you receive an income tax refund of any kind that is greater than the credit, you'll actually receive nothing from it. It only works in your favor if you owe taxes.
A Credit is Not Cash in Your Pocket
Tax professionals are quick to point out that many individuals are confused when it comes to tax credits. What people don't realize is that a tax credit is not money returned to you. Rather, it reduces the amount of taxable income you have at the end of the year.
So, for example, if you had $25,000 in taxable income before your 2010 home improvement tax credit, and you claimed the maximum amount of $1,500, your total taxable income would be reduced to $23,500. Unless you have a high amount of itemized deductions, small tax credit is not likely to make a dent in your total tax liability.
Long-term Savings
In defense of the tax credit, proponents remind consumers that even at such a small dollar amount, the benefits of doing energy-efficient home improvements pay off in the long run. Installing an energy-efficient water heater for example, will save you a significant amount of money over the 10-20 year life of the heater. So even if the tax credit doesn't help you up front, you'll ultimately save money. The same can be said for energy-efficient furnaces, windows, appliances, and insulation.