Sustainability, energy efficiency, ESG goals, green design – concepts that not so long ago weren’t even on the radar of many property owners – are quickly becoming buzzwords to which all in the CRE industry are (or should be) paying more attention. Investors are increasingly appreciating how energy-efficient lighting, HVAC, windows, roofing, insulations and other systems substantially reduce a building’s energy consumption, saving them money in the long run. As local and state mandates for green design increase across the country, luckily so have federal government incentives that benefit both commercial property owners as well as designers (including architects, engineers, contractors) of tax-exempt or government buildings. The ability to take advantage of specific energy-efficient tax deductions and credits is becoming a compelling reason to make investments in environmentally friendly, sustainable design.
179D – for Commercial Properties
179D is a federal tax deduction specifically applicable to newly constructed or renovated commercial buildings equipped with energy-efficient lighting, HVAC and building envelope components. The Inflation Reduction Act of 2022 (IRA) considerably increased the 179D tax deduction from a previous maximum of $1.88/sq ft for eligible building components, depending on certain requirements. Here’s an overview of the specifics needed to reach the most current benefit levels, based on sliding scales.
Base deduction
- Buildings meeting a 25% energy reduction over ASHRAE (the federal energy reference) standards receive a $.50/sq ft federal income tax deduction.
- For every 1% additional reduction over 25%, an additional $.02/sq ft is added.
- Maximum base deduction is $1.07/sq ft in 2023 (inflation adjustments will apply going forward).
Maximum deduction (for projects meeting prevailing wage and apprenticeship requirements)
- Buildings meeting a 25% energy reduction over ASHRAE standards receive a $2.50/sq ft deduction.
- For every 1% additional reduction over 25%, an additional $.10/sq ft is added.
- Maximum deduction is $5.36/sq ft in 2023 (inflation adjustments will apply going forward).
- Prevailing Wage and Apprenticeship (PWA) requirements are complicated, and vary according to geographic area, type of construction and labor classifications; record keeping proof is required for both.
- All laborers, mechanics and workers must be paid the prevailing wage during the project.
- Qualified apprentices have to perform a specific percentage of total labor hours for project construction.
- There are two exceptions to the PWA requirements that can exempt owners from having to meet them, depending on the building’s power output and project timeline.
- More details about PWA requirements can be found in this FAQ section of the IRS website.
Other considerations
- Commercial buildings can now be certified and claimed once every three years if privately owned and once every four years if government owned and allocated to the designer.
- Existing buildings can be eligible for the 179D deduction by meeting specific requirements that include developing a “qualified retrofit plan.”
- The current ASHRAE standards that must be exceeded (dated from 2007) will stay in effect up until December 31, 2026. Then the standards will increase to those issued in 2019, which are more stringent.
- Buildings completed before 2023 are still eligible for 179D at maximum deductions of $1.88/sq ft (placed in service in 2022), $1.82/sq ft (placed in service in 2021) and $1.80/sq ft (placed in service in or prior to 2020).
- The 179D deduction is now a permanent incentive.
45L Credit – for Residential Properties
A similar incentive to the 179D deduction is the 45L federal tax credit. This is available to property owners or developers who construct or substantially renovate dwellings meant for single families (not to the homebuyer). The quality standards by which energy efficiencies must be met are based on ENERGY STAR or Zero Energy Ready Home (ZERH) certifications set by the EPA and the Department of Energy. Highlights of this credit include:
- Single family homes, apartment buildings, residential condominiums, student housing, senior/assisted living facilities and manufactured homes can qualify.
- Starting in 2023, multifamily dwellings meeting PWA requirements gain the maximum credit of $2,500/unit if ENERGY STAR rated and $5,000/unit if ZERH rated. If not met, ENERGY STAR homes gain $500/unit, and ZERH homes gain $1,000/unit.
- Single family and manufactured homes do not have to meet PWA requirements to gain the same maximum credits of $2,500 and $5,000, respectively.
- Starting in 2023, there is no multifamily story restriction for the ENERGY STAR program; however, ZERH must be five stories or less.
- The credit is available up until 2032.
How CRS Can Help
While the IRS and Treasury Department haven’t yet issued a final rule on the PWA requirements, those seeking the deduction or credit must follow their proposed regulations published in August 2023 in order to qualify. Additionally, The IRS requires that energy-efficient buildings must be certified by a qualified third party. Therefore, it’s important to consult with a trusted advisor who’s knowledgeable about the complicated energy standards and PWA requirements in the planning stages of construction. For example, the 45L credit requires mid-construction insulation inspections – if these and other conditions aren’t met, we can’t help get the credit after the building is completed.
CRS’ team of experts are ready to help ensure you or your client meet all IRS requirements to gain the maximum energy deductions for which you can qualify, as well as help find possible deductions you can claim for prior years. We’ll also continue to update you on additional Treasury and IRS developments as they become available.
