In the early morning hours of February 9, 2018, Congress passed the Bipartisan Budget Act of 2018 which included an extension of the Internal Revenue Code Section 179D Energy Efficient Commercial Buildings Deduction, commonly referred as the Commercial Buildings Deduction or the 179D deduction, to include projects completed in 2017.
How Does 179D Work?
Section 179D provides for an immediate deduction which is claimed in the year in which eligible energy-efficient property and building systems are placed in service and can vary based on both the size of the building and the level of efficiency of the systems installed. The more energy-efficient the building is, the bigger the deduction.
In order to achieve the maximum benefit, the building must achieve a 50% savings in energy and power costs set by the American Society of Heating, Refrigerating and Air-Conditioning Engineers (ASHRAE) Standard 90.1-2001 (if placed in service prior to January 1, 2016) or Standard 90.1-2007 (for buildings placed in service on or after January 1, 2016). For purposes of the deduction, energy savings is measured in the following three categories:
- Interior lighting systems
- Heating, cooling, ventilation and hot water systems
- Building envelopes (e.g., insulation, roofing, and windows)
Once it has been determined that a 50% savings in energy and power cost has been achieved, a tax deduction of up $1.80 per square foot can be applied. Additionally, partial deductions are available of up to $.60 per square foot per system for buildings where the overall building does not meet the 50% energy savings threshold, but individual building systems do meet certain requirements for energy savings. Even being able to claim a partial deduction can give the taxpayer substantial tax savings.
Below is an example of how the deduction works:
Assume a company builds a new 100,000 square foot warehouse that costs a total of $2,000,000. The new building includes property that has been certified to reduce the energy usage by over 50% when compared to similar buildings. Under current depreciation rules, the building would be depreciated over 39 years, resulting in an annual deduction of $51,282.
However, under Section 179D, the taxpayer would be allowed to immediately expense $1.80 per square foot, or $1.80 X 100,000 = $180,000. The deduction would reduce the basis of the building, allowing a depreciation deduction in the current year of $46,667 (($2,000,000 – $180,000)/39 years). The maximum deduction for the building in the current year increases to the sum of $180,000 and $46,667, or $226,667.
How to Qualify?
The deduction is available to building owners and lessees who make eligible improvements to a commercial building. These buildings can include warehouses, office buildings, retail buildings, industrial buildings and even apartment buildings, provided they are at least four stories or more. This means that most types of buildings located in the United States should potentially qualify for the deduction, if the upgrades or installation of new building systems meet the energy efficiency requirements.
In addition, eligible designers and builders (such as architects, engineers, contractors, environmental consultants and energy service providers) can also qualify for the 179D deduction under a special rule for public property. In this case, designers and builders that have enhanced the energy efficiency of a new government-owned building or made energy-saving renovations and renovations to existing government-owned buildings are able to claim the deduction.
As government entities do not traditionally pay tax, the owners of these buildings can allocate the deductions to the designer or builder responsible for the energy-saving enhancements. This is an attractive benefit to the building designer or builder since they receive a tax benefit without incurring any building construction costs.
The energy savings must be certified by a qualified, independent, unrelated third-party, who is properly licensed as a professional engineer or contractor in the jurisdiction in which the building is located. The certification is done using software which is included on the Department of Energy’s published list of qualified software.
Additionally, for businesses that are seeking a Section 179D deduction based on work performed on government-owned buildings, these companies are required to secure an allocation letter that allows the government entity to transfer the benefit to the taxpayer.
Please contact Mazars USA LLP professional for additional information.