What Is a Capital Improvement?
Let me explain what a capital improvement really is: it's when you add a permanent structural change or restore some part of a property, and this either boosts the property's overall value, extends its useful life, or adapts it to new purposes.
You, as an individual, business owner, or even a city, can make these improvements to property you own. Some of them get favorable tax treatment, and in certain places, they might be exempt from sales tax. In business terms, this is much like investing in capital expenditures, or CAPEX.
Key Takeaways
- A capital improvement is a durable upgrade, adaptation, or enhancement of a property that increases its value, often involving a structural change or restoration.
- The IRS grants special tax treatment to qualified capital improvements, distinguishing them from ordinary repairs.
- In addition to enhancing a home, capital improvements can increase the cost basis of a property, which in turn reduces the tax burden when it is sold.
- In some states, capital improvements can allow landlords to increase rent more than what the law would otherwise allow.
How a Capital Improvement Works
Capital improvements usually raise the market value of a property, but they can also make the asset more useful beyond its current condition.
According to the IRS, a capital improvement has to last more than one year after completion and be durable or permanent. The size can vary, whether you're a homeowner or a large property owner making these changes.
Check IRS Publication 523 for the official definition. For homes, examples include adding or renovating a bedroom, bathroom, or deck. Other approved ones are new built-in appliances, wall-to-wall carpeting or flooring, or exterior upgrades like a new roof, siding, or storm windows. Even installing a fixed swimming pool or driveway counts.
The IRS makes a clear distinction: this isn't the same as a repair or replacement from normal wear and tear. If your fridge breaks after years of use or you fix leaky pipes, those are not capital improvements.
But if you add solar panels and a tool shed that are permanently attached, those qualify. For businesses, think installing a new HVAC system or ADA-accessible features. For a city, building a new public park downtown would be a capital improvement. In all cases, these additions increase value, are permanent, and removing them would harm the property.
Related Expenses
You need to consider several expenses with capital improvements. Start with the cost basis, which is the original cost of the asset. The IRS has standards for what qualifies as increasing this basis: it must be in place when you sell the property, and it has to be so permanently affixed that removing it would cause significant damage or value loss.
Repairs or maintenance don't add to the cost basis. But if repairs are part of a bigger project, like replacing all windows in a home, they can qualify. Renovations just to keep the home in good condition don't count if they don't add value—things like painting walls, fixing leaks, or replacing broken hardware, per the IRS.
Capital improvements can reduce your capital gains taxes when selling a home or building. They increase the cost basis by adding the improvement expenses to what you originally paid. This shrinks the taxable gain.
Real estate capital gains differ from others. As of 2025, if you're a single homeowner, you get up to $250,000 exemption on profits from selling your primary residence; married filing jointly gets $500,000. You must have lived there for at least two of the last five years before the sale.
If your gain exceeds those amounts—maybe you bought decades ago and values skyrocketed—the tax savings from capital improvements matter a lot.
Locally, take New York State's Major Capital Improvements (MCI) program from the 1970s. It lets landlords in rent-stabilized buildings raise rents by up to 2% annually to cover costs of major improvements like HVAC upgrades, new elevators, or updated common areas. But in 2019, legislators tried to end it, saying it's abused with inflated claims. Critics call it unfair because the cost is one-time for landlords but ongoing for tenants.
Examples of Capital Improvements
Suppose you buy a home for $650,000 and spend $50,000 renovating the kitchen and adding a bathroom. Often, you won't pay sales tax on this because it's a qualified capital improvement.
Your cost basis rises to $700,000. After 10 years living there, you sell for $975,000 as a single filer. Without improvements, the taxable gain would be $75,000 after the $250,000 exclusion ($975,000 - $650,000 - $250,000). With the improvements, it's only $25,000 ($975,000 - $700,000 - $250,000).
What Is a Capital Improvement Fee?
This is a one-time fee from a Homeowner's Association when a property in the HOA sells. It funds future community improvements and is typically about one year's HOA fees.
What Is a Capital Improvement Plan?
It's a municipal or community plan outlining funding and scheduling for capital improvements over years. It lists major expenses for buildings, land, or infrastructure, with deadlines and financing details.
What Is a Certificate of Capital Improvement?
This document certifies a project as a capital improvement. The owner gives it to the contractor to show no sales tax is due.
The Bottom Line
A capital improvement is a permanent change or addition to a property that increases its value or usability. For homes, the spending can deduct from capital gains taxes when sold. Remember, distinguish these from ordinary repairs: they must last over a year and be permanent, as per IRS definitions.
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