Changes to Sec. 179D that expand Tax Savings for energy-efficient commercial buildings
Recent amendments to Section 179D of the Internal Revenue Code (IRC), offering tax deductions for energy-efficient improvements in commercial buildings, present increased opportunities and incentives for taxpayers to engage in such projects.
The key implications of these changes include:
- Increased Deduction Amount: The increased deduction offers up to $5.36 per square foot, serving as a financial incentive for constructing energy-efficient commercial buildings and qualifying multifamily buildings with a minimum height of four stories.
- Expanded Eligibility for Retrofits: The new provisions broaden the scope of eligibility criteria for retrofits of older buildings, facilitating energy efficiency by reducing applicable requirements for the deduction.
- Incentives for Tax-Exempt Organizations: The inclusion of tax-exempt organizations for the Section 179D deduction incentivizes them to improve energy efficiency in their facilities.
- Increased Complexity and Compliance Considerations: While the changes offer increased benefits, taxpayers need to be aware of added complexity. Meeting certain wage and apprenticeship standards is now a requirement to achieve the maximum deduction.
- Effective Date: The modified Section 179D rules apply for tax years beginning after December 31, 2022, and to qualifying property placed in service after that date.
Overall, these changes aim to further encourage energy efficiency in commercial buildings, promote the construction of environmentally friendly structures, and align tax incentives with sustainability goals.
Sec. 179D Eligibility Expansion:
Sec. 179D eligibility, which formerly applied to owners and designers of commercial buildings, has been significantly expanded. Now, governmental entities, tax-exempt organizations, Indian tribal governments, and Alaska Native corporations are included. Tax-exempt organizations can negotiate the deduction allocation, providing substantial savings, and real estate investment trusts (REITs) benefit from simplified earnings and profits (E&P) reduction.
Eligibility Criteria for Energy-Efficient Property:
To qualify for the Sec. 179D deduction, Constructions must meet the following criteria:
- Building Types: Commercial and multifamily structures, including schools, churches, and hospitals, that meet the criteria in ASHRAE Standard 90.1.
- Building Height: At least four stories tall.
- Location: Within the United States.
- Eligible Systems:
- Interior lighting systems (exterior lighting excluded).
- HVAC, ventilation, and hot water systems.
- Building envelope (e.g., windows and roofing).
Note: Further clarification is required, such as the eligibility of solar systems powering both interior lighting and the entire building.
Tax year beginning after Dec. 31, 2022
Tax year beginning before Dec. 31, 2022
Tax Payer Eligibility
- Owners of Commercial Buildings
- Designers of Commercial buildings owned by:
- Governmental Entities
- Tax-Exempt Organizations
- Indian Tribal Governments and Alaska Native
- Corporations
- REITS - Easier to Benefit
Tax Payer Eligibility
- Owners of Commercial Buildings
- Designers of Commercial buildings owned by:
- Governmental Entities
Standard of Measure
More recent of:
- ASHRAE Standard 90.1-2007, or
- ASHRAE Standard 90.1 from four years before when the building was placed in service
Retrofit election:
- Use of building's own standards
- Deduction one year after the placed-in-service date
Standard of Measure
Most recent ASHRAE Standard 90.1 affirmed by the IRS not later than two years before the date when construction of the building began
Deduction amount
Base:
- 54 cents/sq. ft. (whole building). provided an energy savings of 25% has been achieved
- 2 cents/sq. ft. for each additional percentage point, up to a maximum of $1.07/sq. ft. for energy savings of 50% or more
Prevailing wage and apprenticeship bonus
- $2.68/sq. ft. provided an energy savings of 25% has been achieved
- 11 cents/sq. ft. for each additional percentage point, up to a maximum of $5.36/sq. ft. for energy savings of 50% or more
Deduction amount
Base:
63 cents/sq. ft. (per system), provided an energy savings of 50% has been achieved (limit of $1.88/sq. ft. for all three systems)
Deduction limitation
The current-year deduction is reduced by the amount of any sec. 179D deduction taken for the building in the immediate three preceding tax years (four years in the case of buildings owned by a governmental or tribal entity or tax-exempt organization)
Deduction limitation
Lifetime limitation of $1.88/sq. ft. with respect to any specific building
Amount of Sec. 179D Deduction Overview:
- Prior Law Criteria:
- Energy-efficient property installation required a 50% reduction in total annual energy and power costs.
- The deduction rate was 63 cents per sq. ft. for three eligible systems (interior lighting, HVAC, and building envelope).
- Capped at $1.88 per sq. ft. when all three systems were installed.
- New Criteria under Changes:
- Deduction amount based on annual energy savings and compliance with prevailing wage and apprenticeship standards.
- Base deduction starts at 54 cents per sq. ft. for 25% energy savings, with a sliding scale.
- Additional deduction of 2 cents per sq. ft. for each percentage point above the 25% baseline, up to $1.07 per sq. ft.
- Prevailing wage compliance significantly increases amounts, reaching a maximum of $5.36 per sq. ft. for 50% or more energy savings.
- Prevailing Wage Standards (Sec. 179D(b)(4)):
- Requires payment of wages meeting or exceeding the standard wage of the geographical area.
- Maintained by the Department of Labor, differing by job type and geographical area.
- Questions regarding safe harbor(s) for monitoring wages may need clarification.
- Apprenticeship Requirements (Sec. 179D(b)(5)):
- Pending additional guidance similar to Sec. 45(b)(8) rules.
- Requires a percentage of hours to be performed by qualified apprentices.
- Modified Standard for Energy Savings Measurement:
- ASHRAE Standard 90.1 is used to determine the reduction in total annual energy and power costs.
- The new baseline is ASHRAE Standard 90.1-2007 or more recent, referencing the building's placed-in-service date.
- Lifetime Limitation Removal:
- The prior cap of $1.88 per sq. ft. served as a lifetime limit.
- No lifetime limitation under new rules; deduction for the current year is reduced by the previous three-year Sec. 179D deductions.
- Allows periodic energy-efficient projects for additional benefits.
Alternative Deduction for Retrofits:
- Prior Ineligibility of Older Buildings:
- Retrofitting of many older buildings was ineligible for Sec. 179D due to the unattainable 50% energy savings threshold.
- New Amendments Facilitating Eligibility:
- Sliding scale benefit under Sec. 179D(b)(2) aids older properties in achieving the 25% energy savings threshold.
- Introduction of Elective Alternative Deduction (Sec. 179D(f)):
- Building-specific energy usage, not energy cost, determines energy efficiency for retrofits.
- Computation involves comparing the building's Energy Usage Intensity (EUI) before and after the retrofit.
- The sliding scale determines the allowed incentive, limited to the cost of energy-efficient property placed in service.
- Baseline Utilizing Building's Own Energy Usage:
- Utilizing the building's own energy usage establishes a baseline, accommodating older buildings unable to meet the ASHRAE Standard 90.1.
- Requirements for the Alternative Deduction:
- A "qualified retrofit plan" specifying modifications for a 25% or more reduction in EUI is mandatory.
- No governmental approval is required, but certification by a professional (e.g., architect or engineer) is necessary.
- Delayed Deduction and Final Certification:
- Sec. 179D deduction isn't claimed when the property is in service; it becomes applicable one year later.
- Final certification, establishing the percentage reduction in annual energy usage, is required for the delayed deduction.
Reference entiry: Suttora,J. martin, D. February 1, 2023. Recent changes to the Sec. 179D energy-efficient commercial buildings deduction. AICPA & CIMA. https://www.thetaxadviser.com/issues/2023/feb/recent-changes-to-the-sec-179d-energy-efficient-commercial-buildings-deduction.html