Inflation Reduction Act Expands Section 179D for Energy Efficient Commercial Buildings

The perks of energy-efficient commercial buildings are evident: cost savings on maintenance, increased tenant appeal (which ultimately leads to better lease terms), and of course there’s the positive environmental contributions.

That’s why, since 2006, Section 179D has been a beacon for motivating energy efficiency in commercial spaces. As a result of the Inflation Reduction Act (IRA), effective for tax years commencing after December 31, 2022, the 179D deduction has gained even more momentum.

The IRA not only expanded the 179D benefits but also introduced a provision for retrofits in existing buildings. This enhancement opens up avenues for substantial tax savings, providing you with a compelling incentive to elevate your commercial building's energy efficiency.

To grasp the impact of the Inflation Reduction Act (IRA), it's essential to examine the provisions of the pre-2023 Section 179D incentive.

Section 179D before the implementation of the Inflation Reduction Act –

The Section 179D tax deduction serves as a compelling incentive for enhancing energy efficiency in commercial buildings.

The pre-2023 Section 179D was a tax-savvy move, allowing a deduction of up to $1.80 per square foot (adjusted for inflation, the 2022 figure was at $1.88). It applies to energy-efficient equipment installed during initial construction or later improvements in established buildings.

Qualifying for this deduction involved achieving a 50% cumulative increase in energy efficiency across three critical areas:

• Interior lighting,
• HVAC (heating, cooling, ventilation, and hot water), and
• The building envelope.

Notably, if the 50% energy efficiency target was not achieved, partial deductions remained an option.

It’s important to note that once the full deduction was claimed, the window of opportunity to capture this incentive was closed—no additional deductions for future improvements.

The perk catered specifically to tax-paying building owners of commercial or four (or more)-story residential buildings. It was also available to be allocated to designers of government-owned buildings.

How the Inflation Reduction Act impacted section 179D?

The Inflation Reduction Act (IRA) brought about some significant facelifts to Section 179D. The maximum deduction skyrocketed from $1.88 to a whopping $5.36 (in 2023) per square foot.

Exciting, right? But, of course, with great perks come a few conditions.

To snag this enhanced deduction, you have to fulfill a prevailing wage and apprenticeship requirement. The prevailing wage is all about paying fair in the construction arena, making sure laborers and mechanics receive published wage and fringe rates.

And apprenticeship? Well, about 12.5% of your total trade hours during construction (starting 2023) should be at the apprentice level. In 2024, that nudges up to 15%. Fall short on either, and the potential $5 rate decreases to $1 per square foot.

But wait, there's more good news!

The IRA introduced a lower barrier of entry for qualification, now 25% improvement in energy efficiency. The 50% threshold is still the maximum savings you must demonstrate, but every energy savings percentage between will increase the deduction amount.

And yet another positive change for taxpayers - you can now revamp your building every three years (four if you're a designer for a tax-exempt building owner) and still snag the 179D deduction. These changes offer you strategic opportunities to maximize benefits within the revised 179D deduction landscape.

Difference between before and after changes to 17D tax Deduction – An Overview

The below table summarizes the key differences in the Section 179D tax code for buildings placed in service after December 31, 2022, compared to those placed in service on or before that date. The key differentiators lie in eligibility, standards of measure, the election for retrofits, deduction amounts, bonuses for prevailing wages and apprenticeship programs, and deduction limitations.

Key Factors To Consider For The Section 179D Deduction –

Evaluating the 179D deduction's enhanced benefits is a smart move, yet it comes with some considerations. It's prudent for you to assess your unique situation.

• Firstly, certification from a qualified engineering firm is a necessary step
• The prevailing wage and apprenticeship requirements can potentially escalate project costs.
• Gauge the energy-efficient property's cost savings over its life or holding period.
• Reflect on how energy-efficient improvements impact the property's value.
• Delve into the tax savings, accounting for federal, state, and local income tax rates, as well as potential recapture upon property sale.

Things To Keep In Mind –

If you suspect that a prior improvement could have qualified for Section 179D treatment but was not claimed, there's still an opportunity. As a building owner, you can claim the deduction on your next original filing as long as you still have a basis to depreciate and the project was placed into service in 2006 or later. Designers can include this deduction by amending your original tax return for the year the project was completed. Time is of the essence, so prompt action is advised.

Whether you're contemplating new improvements to leverage the enhanced rates or exploring benefits from older projects, reaching out to your reliable tax advisor like TaxTaker is crucial. Initiating this conversation can uncover potential opportunities and ensure you make informed decisions that align with your financial goals. Don't hesitate to act swiftly and engage with TaxTaker to navigate the complexities of Section 179D and optimize your potential deductions.