This article is a comprehensive overview of the old and new Section 45L Tax Credit. The Section 45L tax credit, also known as the New Energy Efficient Home Credit, has experienced significant changes because of the passage of the Inflation Reduction Act (IRA) of 2022. In this article you will find a detailed comparison of the old credit and the new IRA-enhanced version, highlighting key differences, benefits, and implications for developers and homebuilders.
The Section 45L Tax Credit was introduced in 2006 as part of the Internal Revenue Code to incentivize energy-efficient homes. For over a decade, it was a valuable tool for homebuilders to offset the costs of implementing energy-efficient features in residential construction. The credit had experienced expirations and renewals, which created uncertainty for developers trying to plan long-term projects.
The Inflation Reduction Act of 2022 made substantial changes to the Section 45L Credit, extending it through 2032 and modifying its requirements. This long-term extension provided stability and has allowed builders to consider the credit included in their long-range planning.
Pre IRA
Under the previous version of Section 45L, eligible contractors could claim a maximum credit of $2,000 per dwelling unit.
Post IRA
The IRA-enhanced version of the credit is a tiered structure with potentially higher benefits:
Base credit of $500 per unit for multifamily projects meeting ENERGY STAR requirements.
Increased credit of up to $2,500 per unit for single-family homes or multifamily projects meeting ENERGY STAR requirements and prevailing wage standards.
Maximum credit of up to $5,000 per unit for homes achieving Zero Energy Ready Home (ZERH) certification and meeting prevailing wage requirements.
This significant increase in potential credit is a stronger incentive for builders to invest in energy-efficient construction methods and technologies.
Pre IRA
The previous version of the credit was based on energy savings relative to the 2006 International Energy Conservation Code (IECC).
Post IRA
The IRA-enhanced credit ties eligibility to certification under specific programs:
ENERGY STAR Certification:
The shift to program-based certification aligns the credit with recognized industry standards and simplifies the qualification process.
Pre IRA
The previous version's eligibility was for buildings of three stories or less.
Post IRA
The IRA-enhanced credit does not specify building height restrictions, opening up eligibility for taller multifamily projects, official IRS guidance on this matter is still pending.
Claiming the Credit
The previous and current versions of the Section 45L credits have similarities in the claiming process:
Single-Family Homes
The new credit structure offers a significant increase for single-family home builders, with the potential to claim up to $2,500 per home certified under the ENERGY STAR SFNH program, or $5,000 per home achieving ZERH certification. This represents a substantial improvement over the previous credit of $2,000 maximum.
Multifamily Projects
The new credit structure introduces more complexity but also greater potential benefits. The tiered system based on ENERGY STAR and ZERH certification, and prevailing wage requirements allows for credits ranging from $500 to $5,000 per unit
Manufactured Homes
The IRA-enhanced credit continues to include manufactured homes, with the eligible contractor defined as the producer of the home rather than the third-party contractor that may construct it. This provision recognizes the unique production process of manufactured homes and allows producers to benefit from the credit.
Cost-Benefit Analysis
While the increased credit amounts are attractive, builders must carefully evaluate the costs associated with meeting the higher energy efficiency standards and, where applicable, prevailing wage requirements. For some projects, particularly those targeting the base $500 credit, the certification and compliance costs may outweigh the benefits.
Program Version Compliance
Builders must ensure they are using the correct version of the ENERGY STAR or ZERH program based on the project's permit and acquisition dates. Staying informed about program updates is crucial for maintaining eligibility.
Recordkeeping
The new credit requirements related to prevailing wages necessitate strict recordkeeping practices. Builders should implement systems to track and document compliance with all relevant standards.
Integration with Other Incentives
The Section 45L credit can be used with other tax strategies, such as cost segregation and the Section 179D deduction. Builders should consult with tax professionals to optimize their overall tax position.
The IRA includes a provision that allows builders to take the Section 45L credit without reducing their Low-Income Housing Tax Credit (LIHTC) basis. This change is beneficial for nonprofit affordable housing developers, enabling them to maximize both incentives and potentially improve the financial viability of energy-efficient affordable housing projects.
Program Updates: Both the ENERGY STAR and ZERH programs are expected to evolve, potentially introducing new or higher requirements for certification
IRS Guidance: Further clarification from the IRS, particularly regarding building height restrictions and other technical details, may influence how broadly the credit can be applied. Builders will need to stay informed about these changes to maintain eligibility.
Market Adoption: As more builders incorporate the new credit requirements into their projects, best practices for maximizing benefits while remaining compliant, and managing costs are likely to become prevalent.
Technological Advancements: Innovations in energy-efficient building technologies will make it easier and more cost-effective for residential developers to meet the requirements for the maximum credit amounts.
The IRA-enhanced Section 45L tax credit is representative of the federal government's pro-clean energy approach to incentivizing energy-efficient construction. For homebuilders and developers, the enhanced Section 45L credit holds opportunities and challenges. While the potential financial benefits are attractive, careful planning and analysis are required to meet the new requirements.
Those who successfully integrate the credit into their development plans will gain a competitive advantage in an energy-conscious market. As industries adapt to these changes, the Section 45L credit will play a crucial role in driving the adoption of energy-efficient building practices. Reduced carbon emissions and the creation of more sustainable and comfortable homes for Americans are just a few of the intended consequences.
The extended timeline through 2032 may potentially accelerate the transition towards more energy-efficient residential construction across the United States.