Second Home's Cost Basis for a Roof Partly Paid by Insurance

January, 12 2021 by Jean Lee Scherkey, EA

If a roof was replaced at secondary residence I understand the cost is considered a capital improvement and can be added to the cost basis of the home for calculating capital gains tax when sold. Example, roof cost $10,000, insurance paid the cost less $2000 deductible. What is the amount added to the cost basis of the house, $10,000 or $2000? Could not find an answer. Thanks.

-Gordon




Dear Gordon,  

Thank you for your excellent question! Just like a good roof provides shelter from the harsh outdoor elements, qualified capital improvements made to a home can shield your pocketbook from paying capital gains tax you may not owe.

Whether it be a primary residence or a second home, a home's basis is the purchase price or cost to build the home, plus specific settlement and closing costs and substantial additions or improvements made. An improvement is a change made to the home that increases its useful life or transforms the property to a new use. Improvements do not include repairs. Examples of home repairs include replacing a broken windowpane, replacing broken shingles on a roof, and having the plumber retrieve the miniature dinosaurs the kiddo flushed down the toilet.

Replacing an entire roof is considered an improvement, and the cost will increase the basis of the home. However, any costs paid or reimbursed by an insurance claim are not added to the home's basis. Using your example, say you purchased your home for $450,000. A few years later, you need to replace the roof on your home. The total cost for the new roof is $10,000, and your insurance company agrees to cover the entire expense, less a $2,000 deductible. The basis in your home would increase by $2,000 and now be $452,000. The $8,000 paid by the insurance company is not added to the basis of your home.

Remember, it is essential to keep receipts and records of all the items that affect the basis of your home. Records include insurance claim paperwork that verifies the amount the insurance covered and the deductible amount you paid. Although it may be tempting to shred all of these documents once you sell your home, you may want to hold off for at least seven years in case Uncle Sam decides to audit your return.  

Wishing you many happy returns,

Jean