Tax break becomes permanent
IRS Section 179D deduction for energy-efficient commercial buildings was made permanent by the Consolidated Appropriations Act of 2021. At that
time, the deduction generally was available only to the owners of commercial properties and certain residential properties. Government entities with qualifying buildings could use the deduction by assigning it to qualified “designers.” A qualified designer creates technical specifications for the installation of energy-efficient commercial building property. Installation, repair or maintenance of such property isn’t sufficient to qualify. Designers include architects, engineers, contractors, environmental consultants and energy services providers.
To qualify for the deduction before the Act, a taxpayer had to establish a 50% reduction in energy and power costs. The maximum deduction was $1.88 per square foot (adjusted for inflation). This meant it was worth as much as 63 cents per square foot for each of three eligible systems: HVAC and hot water, interior lighting, and building envelope. Taxpayers could claim the deduction once per property. Under the Act and beginning in 2023, the qualification threshold drops to 25% energy savings. The base deduction amount is 50 cents per square foot, but a “bonus deduction” could substantially increase the deduction. To qualify for this bonus (up to $2.50 per square foot), projects must satisfy prevailing wage and apprenticeship requirements. The deduction amount also increases as energy savings exceed 25% — up to $5 per square foot for projects that also meet the labor requirements. And the credit can be taken on a specific building every three years.
Benefit for nonprofits
How do these changes help nonprofits? The Act now permits all tax-exempt entities, not just governmental entities, to allocate their deductions to qualified designers. This could reduce your organization’s costs on construction projects that incorporate sustainable materials. You may already have prioritized the use of such materials because it aligns with your mission and values or simply to cut futureutility expenses. Let’s say you plan to build a 40,000-square-foot, LEED-certified building and to meet the labor requirements. You’ll have $200,000 in tax deductions to allocate to qualified architects, engineers and other construction professionals. You can allocate the entire deduction to a single designer or make proportional allocations to multiple designers. That can help you negotiate a better overall price on the project than you would if you weren’t able to allocate. The exact deduction amount will be determined through a “Section 179D study” obtained by the designer. The study is performed by a qualified contractor or professional engineer. Among other things, this third party will have to make a site visit to your property to confirm that it has met or will meet energy savings requirements. You’ll also need to sign an allocation letter that includes the following:
› The cost of the energy-efficient property (including labor),
› The date the property is placed in service,
› The amount of the Sec. 179D deduction allocated to the designer, and
› A declaration that the information presented in the letter is true and complete to the best of your knowledge and belief.
Note that you can’t seek, accept or solicit payments from a designer in exchange for providing an allocation letter. Nor can you require a designer to pay you a portion of the deduction’s value. Both of these practices would constitute an illegal kickback.
Cover your bases
Your preferred architect, engineer or other type of qualified designer may not have experience working on a project involving the allocation of the Sec. 179D deduction.