It’s no secret that climate change is a top priority for the current administration. As part of the hotly debated tax and spending legislation moving through Congress — referred to as the “budget reconciliation” bill — the House proposed a laundry list of investments and incentives for upgrading homes and buildings alongside dozens of proposals promoting electric vehicles, energy storage, renewable power and a more dynamic electric grid.
With perhaps the most comprehensive climate proposal ever to come out of Washington, a great deal of attention has been paid to public facilities and home weatherization. However, the bill may raise concern for those working in the buildings sector.
That being said, the Ways and Means Committee’s tax bill would modernize the outdated incentives for energy-efficiency improvements for homes and buildings, including more than doubling the incentive levels. The Section 179D incentive for energy-efficient buildings would jump from $1.80 per square foot for efficiency improvements to a sliding scale between $2.50 and $5. It would also implement a new framework for making the deduction more accessible for retrofits to existing buildings. Additionally, the Section 45L credit for energy-efficient new home construction would jump from $2,000 currently to $2,500 for meeting Energy Star requirements and $5,000 for net-zero-energy homes. By shifting to the Energy Star performance metric, it also would be much more attractive for multifamily projects.
Most significant changes
The energy provisions in the reconciliation bill make good on the Biden administration vision outlined in the Green Book. Though some provisions will have higher hurdles for qualification, the more generous deductions and credits will heavily incentivize taxpayers to get over them.
Also, legislation continues to add complexity to meeting the requirements to qualify for many of the energy incentives. It is imperative that the energy design to qualify for tax incentives needs to start with the original design. As critical as building the financial stack is the design for claiming lucrative tax incentives. It’s a team approach.
The changes to the Section 179D Energy-Efficient Commercial Buildings deduction will complicate the qualification process, but the lowered energy savings requirements and the increased and now sliding scale for the deduction will make it much more attractive.
Often the energy-efficient building assets that reduce energy consumption can qualify for local utility rebates or federal energy grants. Don’t overlook these funding options — dollars available for the asking. Further, the act changes the relevant energy standard from two years before construction begins to two years before the building is placed in service. Unless the Treasury provides relief by slowly rolling out the affirmation of energy standards, building owners may have difficulty meeting energy standards that were not yet promulgated when construction began. The reduction of the energy savings target from 50% to 25% may help mitigate this problem.
Higher deductions for 179D energy-efficient commercial buildings
Generally, this is a deduction against long-life assets. It is a one-time deduction based on the lesser of the square feet that qualify, or the investment cost. Many taxpayers do not realize this deduction can apply in addition to cost segregation. Yes, it is a write-off of capitalized costs for HVAC, lighting, building envelope or hot water systems that are often classified as 39-year costs.
Further, building owners committed to energy savings will greatly appreciate increasing the 179D deduction from $1.80 per square foot to a minimum of $2.50 up to a maximum of $5.00 per square foot depending on the energy savings.
Measuring ROI
When looking at the return on investment, it's important to consider all the tax incentives that can be layered into the first year. Using energy-efficient design not only qualifies you for additional deductions and credits on your tax return, but it lowers operating costs every day. Taxpayers are using tax incentives to fund energy upgrades to reduce utility costs. It’s a team approach to maximize the benefits.
Confusion over project requirements for the Section 179D deduction
Including wage and apprenticeship requirements for the Section 179D deduction will complicate the qualification process by pushing back the information-gathering process to the construction stage. Having a way to cure the wage requirement but not the apprenticeship requirement will create many unanticipated headaches for building owners.
Architects, engineers and construction companies, and their accountants, should be making plans now in anticipation of these new provisions going into effect for buildings placed into service (or substantially completed in the case of residencies) after Dec. 31, 2021. Just keep in mind the rules can be complex and penalties for miscalculations can be onerous.
