Taxes 2011 – 3 Steps to Convert This Year’s Refund Into Next Year’s Tax Credit

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What if you could take this year's tax refund, spend every dime, then get it all back, plus 30 percent? Impossible? Not at all. Read on...

Last year I wrote an article similar to this one, called Transform Last Year’s Tax Refund Into Next Year’s Tax Credit. That story was about how I had just invested my tax refund in a $5,000 high-efficiency central air conditioner for my home: something that generated a cool $1,500 tax credit that I’ll be seeing as soon as I file my 2010 taxes.

I’m happy to report that my new air conditioning unit has performed beyond my wildest expectations, doing a much better job of cooling my Florida home while lowering my electric bills by an average of at least $100/month. Even without the tax credit, that was definitely a tax refund well spent.  With the credit, it was nothing less than a great investment.

Consider the cost/benefit: I spent $5,000 on something that definitely improved the value of my home, my quality of life, and the planet.  And in the not-too-distant future, my entire investment will have been repaid: Uncle Sam is about to give me back $1,500, and I’ll be saving $1,200/year on electricity for years to come. It doesn’t get much better than that.

The bad news: As we warned in 6 Year-End Money Tips for 2010, the $1,500 maximum credit for things like new air conditioning units expired on Dec. 31, 2010.

The good news: There are other – and in some ways, even better – tax credits you still qualify for. I’ll start the explanation in the following news story: Check it out, then meet me on the side for more.

As I said in the story above, you can get a tax credit of 30 percent of whatever you spend on qualifying alternative-energy home improvements. Keep in mind that a tax credit reduces the money you actually owe, as opposed to a tax deduction, which only reduces the income you’re taxed on. In other words, a credit is virtually as good as cash.

The alternative energy tax credit is better than the one I took advantage of last year for a couple of reasons. First, rather than being capped at $1,500, this one has no cap: It’s 30 percent of whatever you spend. Second, it applies to improvements you make not just to your primary residence, but unlike the recently expired credit I took, it also applies to second homes (but not rentals). Finally, there’s no rush on this credit: It doesn’t expire until 2016.

But this credit also comes with at least one disadvantage, and it’s a biggie: You’re required to buy things that are less mainstream and often more expensive than an air conditioner. Instead, you’ll be looking at…

  • Geothermal heat pumps: A heat pump that uses the ground instead of outside air to provide heating, air conditioning, and hot water. Here’s more information from Energy Star.
  • Wind turbines: A turbine that converts wind energy into electricity that ties into your house’s electrical system.
  • Solar water heaters: A water heater that uses the sun’s energy to heat water. Here are the models that qualify.
  • Solar panels or photovoltaic systems: Solar cells that capture the sun’s energy and convert it into electricity.

Even with a fat tax credit, that’s a pretty restrictive list, so just because you can doesn’t mean you should. Following are the steps you should take before deciding that harnessing the sun is a bright idea…

Step one: What do you need?

Tax credits are a great incentive to renovate, but not to blow money on something you don’t really need. In my scenario from last year, for example, my air conditioner had literally stopped working, it was nearly summer, and I live in South Florida: Credit or no credit, I was buying a new air conditioner. For me, it was a no-brainer.

From the list above, the improvement with the highest cost/benefit ratio is probably the solar water heater – they can be had for as little as $4,000, and as you heard in the video above, can shave 20 percent off the cost of your monthly electric bill. On the other end of the spectrum, a photovoltaic system that can power your entire house can easily cost 10 times that amount: much more difficult to justify.

Step two: Find qualifying products

To see the details of what qualifies for tax credits, visit the Energy Star website. There are lots of restrictions on which products qualify, however, as well as other details you need to know.  For example, when it comes to solar water heaters, at least half the energy used to heat your home’s water must be from solar, and the credit doesn’t apply to heating swimming pools or hot tubs.

There are also other more conventional products that can earn you smaller credits.  The air conditioning system I bought last year for my house, for instance, no longer earns a credit of up to $1,500: But it does still earn a credit of up to $300. Check this page of Energy Star’s website for information on other credits.

Step three: See if there’s additional money to be had

If you have the means and the motive to make a home improvement, the tax credit is a nice extra. But the federal tax credit may be only part of what you have coming.  Because depending on where you live and what you buy, your state, power company, and/or the manufacturer of what you’re buying may be offering incentives as well. Dealers and retailers should know what’s available in your neighborhood, but here are other places you can check.

So, if you’ve been thinking about increasing your energy efficiency or reducing your carbon footprint and electric bill, using your tax refund to fund your project might be a bright idea. As I said at the outset of this story, it’s a way to get your refund, spend it, earn 30 percent on it, then make every penny back over time.

Stacy Johnson

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