Are you considering a new water heater? Maybe you want to replace your existing water heater with a gas or electrical water heater. There are several options you can have; the standard water heaters or a tankless system. Another option is a solar water heating system. Not only is it the most efficient of the options available to you but solar water heaters are cost-effective and are an environmentally responsible alternative to conventional methods of producing domestic hot water. If you made energy saving improvements to your home located in the United States in 2007 or are making them in 2008 you may qualify for the residential energy efficient property credit.

In 2005, the United States government enacted the Energy Policy Act of 2005 (EPACT) which gave homeowners a 30% Federal tax credit on all solar systems installed between January 1, 2006 to December 31, 2007. Initially scheduled to expire at the end of 2007, the tax credits have been extended to December, 31 2008. For residential installations, there is a $2,000 cap.

A tax credit is generally more valuable than an equivalent tax deduction because a tax credit reduces tax dollar-for-dollar, while a deduction only removes a percentage of the tax that is owed. If you purchase a solar water heater, you can itemize the purchase on your federal income tax form, which will lower the total amount of tax you owe the government.

Per the IRS, qualified solar water heating property costs are costs for property to heat water for use in a home located in the United States and used as your home if at least half of the energy used by the solar water heating property for such purpose is derived from the sun. This includes costs relating to a solar panel or other property installed as a roof or a portion of a roof. To qualify for the credit, the property must be certified by the nonprofit Solar Rating Certification Corporation (SRCC) or a comparable entity endorsed by the government of the state in which the property is installed. The home does not have to be your main home.

To be eligible for the credit, a system must be "placed in service" or activated on or after January 1, 2006, and on or before December 31, 2008. Expenditures with respect to the equipment are treated as made when the installation is completed. If the installation is on a new home, the "placed in service" date is the date of occupancy by the homeowner.

The federal tax credit will pay as much as one-third of the cost upfront, but in many states such as California and New Jersey, there are other incentives available that pay as much as 60%. For example, in Southern California, the maximum incentive is a $1,500 rebate.

Excess credit may be carried forward to succeeding taxable year and added to the credit allowable for the succeeding taxable year. Be aware: any system producing hot water for a pool, spa or hot tub does not qualify for the 2007-2008 federal tax credit.