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Energy tax credit explained

solar panelsWe're having a real winter this year. As opposed to a few winters past, we've already seen several snows and have had the heater cranked up for months. I happen to live in an old house (and by old, I mean about 130 years), so heating it can be a challenge. Our old unit isn't cutting it anymore, and we're going to have to replace it. Fortunately, we might get a tax break for doing so.

Under current law, taxpayers may be eligible for a federal income tax credit for the purchase of a new energy-efficient water heater, air conditioner or furnace. But it doesn't stop there. The credit also applies to such improvements as windows and doors, roofs and insulation. You can find a detailed list of qualifying purchases on the Energy Star Web site.

The credit is equal to 30% of the purchase price, up to a maximum of $1,500. The $1,500 limit is the total credit available for all purchases made in 2009 and 2010. For purposes of calculating the credit, you should include the cost of the improvement plus the cost of labor related to preparation, assembly, or original installation of the property.

Here's how it works: If the cost of a new air conditioning system was $3,000 in 2009, you can claim a credit of $900 (30% of $3,000) on your 2009 federal income tax return. If the system ran $5,000, your credit would be the maximum credit allowed, or $1,500 (30% of $5,000). Purchases over that amount would only qualify for the maximum credit of $1,500.

But here's the best part: Credits are dollar for dollar reductions in your taxes due -- as opposed to deductions which merely reduce your taxable income. In other words, that $1,500 in credit will offset $1,500 in taxes owed.

There are, of course, some restrictions. The improvements must be made to an existing home that qualifies as your principal residence. New construction and rentals do not qualify for the credit. A home is where you lived in 2009 and can include a house, houseboat, mobile home, cooperative apartment, condominium, or a manufactured home that conforms to Federal Manufactured Home Construction and Safety Standards.

To apply for the credit, you'll fill out a form 5695. For purposes of taking the credit, you can rely on the manufacturer's certification in writing that a product qualifies for the credit.You don't need to attach the certification to your return, but you should keep it for your records.

In addition to the federal income tax credit, some states offer energy tax credits that can be applied toward your state tax liability. You can see a list of states that offer incentives here.

It's a win-win in this economy. Sure it's an outlay upfront, but if you buy a qualifying improvement, you get the tax credit, and you'll save some money on your electric bill for years to come.

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