Is your Company Taking Advantage of the Enhanced Commercial Buildings Energy-Efficiency Tax Deduction?

The Inflation Reduction Act (IRA), passed in 2022, aims to boost domestic energy production and includes significant updates to the Accelerated Cost Recovery for Green Building Property Deduction, commonly known as the Section 179D deduction. This deduction offers substantial tax savings for building owners who place in service energy-efficient commercial building property (EECBP) or energy-efficient commercial retrofit property (EECRP).

Before the IRA, the Section 179D deduction allowed a tax deduction of up to $1.80 per square foot (or $1.88 in 2022) for qualified EECBP. To qualify, the EECBP needed to be installed on or in a building located in the U.S., with plans to reduce the annual energy costs by 50% or more. Additionally, the building must have been owned by the taxpayer. However, the new updates to Section 179D requirements included in the IRA have made this tax break even more appealing.

The new requirements outlined in the IRA apply to buildings placed in service on or after January 1, 2023. One of the most important modifications included is the annual energy savings requirement, which was reduced from 50% to 25%, allowing countless additional projects to be eligible for the deduction. Another major change is the deduction amount per square foot, which increased from the flat $1.80 per square foot to a potential $5.00 per square foot, contingent upon meeting certain wage requirements.

Additionally, the IRA updated the law to allow designers of energy-efficient property to claim the deduction for buildings owned by tax-exempt entities, a change that broadens the opportunities available to architects, engineers, and other design professionals.

The aforementioned wage requirements include certain prevailing wage and apprenticeship criteria. To meet these criteria, laborers and mechanics must be paid prevailing wage by the company or subcontractor. Accurate records must also be maintained and preserved for all work performed to ensure wages are not below the prevailing rates. Non-compliance can result in penalties, but companies can correct prevailing wage discrepancies with interest up to three times the amount.

Apprenticeship requirements are met when any company, contractor or subcontractor – with four or more employees – satisfies an applicable percentage of labor hours performed by a qualified apprentice. Prior to 2023, this level was 10%; during 2023, it rose to 12.5%, and after 2023, it increased to 15%. This requirement can also be met by paying certain penalties per labor hour shortage. There is also a good faith effort exception for certain instances in which the applicable percentage of apprentice hours is not met. If a company requests qualified apprentices from a registered apprenticeship program in their applicable industry and keeps a record, any denial or lack of response would qualify for the good faith effort exception. As a result, the company would still satisfy the apprenticeship requirement.

It is important to note that along with the increased tax savings, there is now additional information required to claim the deduction on your tax return. Along with completing an approved energy study to ensure certain property qualifies for the deduction – which has always been a requirement – companies must now file Form 7205, Energy Efficient Commercial Buildings Deduction, as part of their tax return.

If you’re considering taking advantage of the enhanced Section 179D deduction or have questions about its requirements, our team can help guide you through the process.

Contributing author: Abby K. Sweers, CPA, is a tax senior manager at the firm. Abby brings expertise in preparing and reviewing various individual and corporate tax engagements, including tax planning and compliance. She specializes in the construction and manufacturing industries, multi-state entities and high-net-worth individuals. For more information on this topic, contact Abby at asweers@dmcpas.com.