Section 179D: The Energy-Efficient Commercial Buildings Tax Deduction

The Section 179D tax deduction, also known as the Energy-Efficient Commercial Buildings Deduction, is a powerful incentive for building owners and designers to incorporate energy-efficient features into commercial and multifamily buildings. Introduced in 2006, this deduction has undergone significant changes with the passage of the Inflation Reduction Act (IRA) of 2022, making it more accessible than ever before.

What is Section 179D?

The Section 179D tax deduction encourages building owners and designers to implement energy-efficient systems in commercial and multifamily buildings. Initially introduced in 2006, the deduction was expanded significantly by the Inflation Reduction Act (IRA) of 2022.

Key Changes Under the Inflation Reduction Act (IRA)

• Increased Deduction: Maximum increased to $5.00 per square foot (adjusted for inflation).
• Expanded Eligibility: Now includes tax-exempt entities, allowing them to allocate the deduction to their building designers.
• Flexible Calculation: Uses a sliding scale calculation, offering deductions even if maximum energy savings aren’t reached.
• Lowered Energy Savings Requirement: Reduced from 50% to 25% compared to the reference standard.

Eligibility

The deduction applies to:

• Commercial Building Owners
• Designers of government or tax-exempt organization buildings
• Tenants who make qualifying energy-efficient upgrades

Qualifying Buildings and Improvements

Eligible buildings include:

• Commercial buildings, multifamily properties (4+ stories), warehouses, and parking garages
• Buildings owned by government or tax-exempt entities

Eligible improvements cover:

• Interior lighting systems
• HVAC and hot water systems
• Building envelope (walls, roof, windows)

Deduction Amounts

1. Base Deduction: Starts at $0.58 per square foot for 25% energy savings, increasing to $1.16 per square foot for 50% or more savings.

2. Enhanced Deduction: For projects meeting prevailing wage and apprenticeship requirements, this starts at $2.90 per square foot and can go up to $5.81 per square foot.

3. Retrofit Option: A new IRA feature for retrofits based on a 25% reduction in energy use intensity compared to the baseline, rather than energy costs.

Prevailing Wage and Apprenticeship Requirements

Projects claiming the enhanced deduction must:

• Meet local prevailing wage standards.
• Include a specified portion of work hours performed by qualified apprentices.

1. Certification: Obtain certification from a licensed engineer or contractor confirming energy savings.
2. Model Energy Savings: Use IRS-approved software to model energy savings.
3. File on Tax Return: For prior year improvements, use Form 3115.
4. Allocation Letter (for designers of government or tax-exempt buildings): Obtain from the building owner.

Strategic Considerations

• Cost-Benefit Analysis: Weigh costs of energy-efficient upgrades against tax benefits.
• Combine Incentives: Use Section 179D with other tax credits for greater savings.
• Long-Term Planning: With Section 179D extended through 2032, consider it in future building projects.
• Documentation: Maintain detailed records of improvements and labor practices.

Summary

The enhanced Section 179D deduction offers valuable tax savings to building owners, designers, and developers who adopt energy-efficient building practices. Proper planning and consulting with tax professionals can maximize these financial benefits while promoting energy efficiency in the built environment.