Federal Geothermal Tax Credit

Your Questions Answered

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Q: What is the Geothermal Tax Credit?

A: Let’s start here. What is the tax credit and how does it work? The initial federal investment tax credit was part of the Energy Policy Act of 2005. This bill was passed to help solve energy problems and provide tax incentives for existing and new types of energy production, including wind and solar. At the time, the credit only lasted through 2007, but it was so successful that it was extended several times. In 2008, the program was broadened to include geothermal heating and cooling systems. In 2016, the tax credit did actually expire. However, it was reinstated in 2018 to include not just households with geothermal heat pumps installed in 2018, but it also retroactively included any geothermal heat pumps installed after January 1, 2017. The federal tax credit initially allowed homeowners to claim 30 percent of the amount they spent on purchasing and installing a geothermal heat pump system from their federal income taxes. The tax credit decreases to 26% in 2020 and 22% in 2021. Homeowners who install geothermal can get the tax credit simply by filling out a form declaring the amount you spent when you file your federal income taxes. As long as your system is up and running by the end of 2020, you can claim the 26 percent from your federal income taxes. It’s an incredible advantage and can significantly reduce the cost of the system overall. There’s no limit to the value of the tax credit. As long as you still own the house where the system is installed, you can claim the true percentage based on the year you installed the system.

Q: Do I qualify for the geothermal tax credit?

A: To be eligible for the federal tax credit for geothermal, your geothermal heat pump must be placed in service between October 3, 2008, and December 31, 2021. For most homeowners, this means the installation is complete and the equipment is ready for use. But if the system is installed as part of the construction or renovation of a house, it’s considered placed in service when the taxpayer moves into the home.

Q: What is the System Criteria?

A: Your geothermal heat pump has to meet Energy Star (a federal energy-efficiency program) requirements. This means the heat pump must meet or exceed specific efficiency standards. In fact, all Energy Star geothermal heat pumps are over 45 percent more energy efficient than standard options. Not every geothermal heat pump is qualified, so make sure your geothermal installer meets these standards up front. Dandelion Geothermal is an Energy Star Certified geothermal installer!

Q: What are Residency Requirements?

A: You must own the home where the geothermal heat pump is installed to qualify for the tax credit. It doesn’t need to be your primary home, though — it can be a second home or vacation property as long as it’s located in the United States. The geothermal credit can’t be claimed for rental properties unless you rent a second home for part of the year. In that instance, you may be able to claim the credit for the portion of time you live in the home. For example, if you live in your second home for 6 months out of the year but rent it out the rest of the time, you may be able to claim 50% of the 26% tax credit.

Q: System Payment Method

A: It doesn’t matter if you buy the system upfront or finance your purchase. Either way, you’re eligible for the tax credit.

Q: What are the Tax Liability?

A: A tax credit is a dollar-for-dollar reduction of the income tax you owe. So in order to qualify for the Federal Tax Credit, you need to have a large enough tax burden to benefit. Some types of tax credits are refundable. That means you can still receive the full amount of the credit even if the credit exceeds your entire tax bill. For example: If your tax bill is $300, but your refundable tax credit is $1000, you will receive a $700 refund. The Geothermal Tax Credit, however, is a non-refundable personal tax credit. It can only reduce or eliminate your liability (how much money you owe to the IRS). If you credit is greater than your tax liability, it will not generate a tax refund. For example: If your tax bill is $300, but your non-refundable tax credit is $1000, you will only use $300 of your credit (and will have $700 unused). Fortunately, the Geothermal Tax Credit allows homeowners to apply their tax credit over multiple years. If your tax burden in 2020 is less than the full amount of your credit, you can carry over the remainder when filing your taxes in 2021. You can even keep doing this as long as the tax credit is active. The Geothermal Tax Credit can offset regular income taxes and even alternative minimum taxes. For example: Let’s say you purchase a geothermal system for $20,000. That could mean you’re eligible for a $5,200 tax credit. But let’s say you only owe $3,000 in taxes. In this situation, you can simply claim $3,000 in credit this year and $2,200 next year. To benefit from the Federal Tax Credit, you must owe at least as much in taxes as you would claim for the credit, even if it’s over several years.

Q: How do I claim the Geothermal Tax Credit?

A: After you’ve had your geothermal system installed, you’ll simply fill out an additional form when it’s time to file your federal income taxes. The form you’ll need to fill out for the IRS is 5695. You can follow the form’s instructions here. Although the name doesn’t exactly roll off the tongue, it can be a big help come tax time. It’s best to work with a tax professional who will know exactly how to fill out your new form for the tax break. This will ensure that everything is filled out accurately, and they can also help advise you on other potential energy tax credits you might be eligible for. Of course, you can fill this form out yourself, but be sure to read and thoroughly follow the instructions before you do. If you’d prefer to reach out to the IRS directly, you can contact them through their website or by calling 1-800-829-1040.

Q: What expenses are eligible for the Federal Geothermal Tax Credit?

A: The Geothermal Tax Credit covers expenses including labor, onsite preparation, assembly, equipment, and piping or wiring to connect a system to the home. Electrical upgrades may also be eligible. Add-on components, like ductwork or a new generator, are not covered by the tax credit. What other expenses aren’t covered by the tax credit? Equipment used only for hot tub or a swimming pool, zoning, and used components (like a pre-owned geothermal heat pump).

Q: Are there other incentives available?

A: Many states offer incentives and rebates. Each state has a unique incentive.