Home Improvement and Residential Energy Tax Credits
A credit is still available for sustainable home improvements through 2021
Homeowners can claim a federal tax credit for making certain improvements to their homes or installing appliances that are designed to boost energy efficiency. Solar, wind, geothermal, and fuel cell technology are all eligible for the Residential Renewable Energy Tax Credit. The Non-Business Energy Property Credit has been reinstated through 2020 as well.
The credit applies only to home modifications made through the end of 2021, however. Adjustments apply for tax years 2019, 2020, and 2021.
The Residential Renewable Energy Tax Credit
You can claim three applicable percentages for the Residential Renewable Energy Tax Credit:
- 30% for property placed in service after December 31, 2016 but before January 1, 2020
- 26% for property placed in service after December 31, 2019 but before January 1, 2021
- 22% for property placed in service after December 31, 2020 but before January 1, 2022
The tax credit you're eligible for is a percentage of the cost of alternative energy equipment that's installed on or in a home, including the cost of installation. Solar hot water heaters, solar electric equipment, wind turbines, and fuel cell property are examples of equipment that's eligible for this tax credit.
There's no dollar limit on the credit for most types of property, but the credit for fuel cells is capped at $500 per half-kilowatt of power capacity. Installing a fuel cell with a 4-kW capacity would earn you a $4,000 tax credit.
This tax credit isn't refundable, so the IRS won't be sending you the difference in cash if your credit is more than any tax you owe on your return. The unused portion can be carried over to your following year’s tax return, however, so you won't lose it.
The property must be located in the United States, but it doesn't have to be the taxpayer’s main residence unless the alternative energy equipment is a qualified fuel cell property. The equipment must be installed in your principal residence in this case. Both existing homes and homes under construction are eligible.
You can't claim the residential solar credit for your rental properties. You must live in that property for part of the year, only using it as a rental when you're away, to be eligible for the tax credit.
The Non-Business Energy Property Credit
The Non-Business Energy Property Credit initially expired at the end of 2017, but then it was reinstated through December 31, 2020.
The first part of this credit is worth 10% of the cost of qualified energy-saving equipment or items added to a taxpayer’s main home during the year. Energy-efficient exterior windows and doors, certain roofs, and added insulation all qualify, but costs associated with the installation aren't included.
The second part of the credit isn't a percentage of the cost, but it does include the installation costs of some high-efficiency heating and air-conditioning systems, water heaters, and biomass fuel stoves. Different types of property have different dollar limits.
The main home must have been located in the United States to qualify for this credit, and it's only available for existing homes, not homes that are under construction.
This isn't a particularly generous tax credit. The credit for home insulation, exterior doors, certain roofing materials, and exterior windows and skylights is just 10% of the cost. You can deduct 100% of energy-related property costs, but this portion of the credit has a maximum lifetime limit of $500—you can't claim $500 per year.
You'll need written certification from the manufacturer that your product qualifies for the tax credit, which is typically found on the manufacturer's website or in the product’s packaging. Taxpayers should not attach this to their tax returns, but keep it on hand with your other tax records.
Energy Tax Credits Reduce Your Cost Basis
You must reduce the cost basis of your home by the dollar amount you claim for residential energy tax credits. You must reduce your basis by points the seller paid to you.
Its basis is the total amount it cost to complete construction if you had a hand in building a portion or the entirety of your home yourself.
As an example, let's say you bought your home for $250,000 and sold it for $300,000. Your cost basis would be $250,000, assuming you didn't make any other improvements that didn't result in claiming a residential energy tax credit. You would have a capital gain of $50,000—the difference between $300,000 and $250,000—and capital gains are taxable.
Now let's say that you claimed a $4,000 tax credit for your fuel cell at one point. Your gain increases to $54,000, or $300,000 less $246,000, because you must subtract this from your cost basis.
Energy Credits Tax Forms and Instructions
Complete and file IRS Form 5695 with your tax return to claim either the Residential Renewable Energy tax credit or the Non-Business Energy Property tax credit.
Congressional Research Service. “Renewable Energy and Energy Efficiency Incentives: A Summary of Federal Programs.” Page 30. Accessed Oct. 19, 2020.
IRS. "Energy Incentives for Individuals: Residential Property Updated Questions and Answers." Accessed Oct. 19, 2020.
DSIRE. “Residential Renewable Energy Tax Credit.” Accessed Oct. 19, 2020.
Legal Information Institute. “26 U.S. Code § 25D. Residential Energy Efficient Property.” Accessed Oct. 19, 2020.
IRS. “Instructions for Form 5695 (2019) Residential Energy Credits.” Pages 1-4. Accessed Oct. 19, 2020.
Energy Star.gov. "Equipment Tax Credits for Primary Residences." Accessed Oct. 19, 2020.
IRS. "Instructions for Form 5695 (2018)." Accessed Oct. 19, 2020.
IRS. "Publication 523 Selling Your Home." Page 9. Accessed Oct. 19, 2020.