The 2021 Consolidated Appropriations Act included the permanent extension of the energy-efficient commercial buildings (Section 179D) deduction. Section 179D can be a powerful tax incentive for architects, engineers, and other designers of government building projects. However, designers planning to claim the deduction should be careful to avoid the potential pitfalls and scrutiny associated with §179D.
Originally enacted in 2005 and extended several times since §179D provides a tax incentive for firms that are involved in the design of energy-efficient building projects. Section 179D allows a first-year deduction of up to $1.80 per square foot for the owners of new energy-efficient property. For qualifying buildings owned by federal, state, or local governments, the government agency is allowed to allocate that deduction to the firm or firms responsible for designing the building or related building systems. The government agency can allocate 100 percent of the deduction amount to a single firm or split the deduction among multiple firms. This allows the firm or firms named in that allocation to claim the additional tax deduction in the year the property is placed in service.
Section 179D Calculation
The §179D deduction can be up to $1.80 per square foot depending on how the building systems qualify. The total deduction can’t exceed the total cost of the qualifying property. There are two ways a building or building system can qualify for the §179D deduction:
- $1.80 per square foot for a total energy use reduction of 50 percent or more compared to the applicable American Society of Heating, Refrigerating and Air-Conditioning Engineers (ASHRAE) standards
- Up to 60 cents per square foot for each of the following building systems that exceed energy reduction thresholds compared to the applicable ASHRAE standards:
- HVAC – 15 percent
- Lighting – 25 percent
- Building Envelope – 10 percent
Questions to Ask When Claiming §179D
Many design firms have claimed the deduction for their work on government-owned buildings. As guidance and enforcement have evolved, designers should continually be evaluating and confirming that they do qualify for the deduction allocation on any government project. Proper documentation and an understanding of the rules for claiming the deduction are essential to help ensure you correctly claim §179D and withstand any IRS scrutiny. Designers should work with their tax advisors to address the following commonly overlooked or misunderstood requirements:
- Do you meet the definition of a designer? For the purposes of §179D, a designer is a person who creates the technical specifications for installation of energy-efficient commercial building property. A qualified designer may be an architect, engineer, contractor, environmental consultant, or energy services provider who creates the technical specifications for the building. A person who merely installs, repairs, or maintains the property is not a designer. Designers on government buildings should be prepared to show documentation related to their role in the design of energy-efficient, government-owned buildings.
- Do you have a properly documented allocation letter? To claim §179D, designers need a letter from the government agency that owns the energy-efficient property allocating the deduction. Consider the following when obtaining an allocation letter:
- The letter must be signed by an authorized representative of the government agency. Confirm that the individual signing the letter has authority to do so.
- The letter must contain specific elements. Designers claiming §179D should confirm that their allocation letters contain the following elements:
- Name, address, and telephone of government agency’s authorized representative
- Name, address, and telephone number of the designer’s representative
- Name and address of the government-owned building
- Cost of qualifying property
- Date the qualifying property was placed in service
- Amount of the deduction being allocated to the designer
- Signatures of the representatives under penalties of perjury
- Are other designers seeking the deduction? It’s not unusual for a designer to approach their government client seeking allocation of the deduction only to learn another designer has already received it.
- Is the building owner a government entity? Only property owned by a federal, state, or local government or a political subdivision thereof, e.g., public school districts, may allocate the deduction. While this requirement may seem straightforward, buildings could appear to be government owned but are actually held in a private foundation or by a for-profit landlord with a government entity tenant.
- Do you have the certification study required to claim the deduction? Any taxpayer claiming §179D should have and retain a certification study, which should include:
- Energy models showing the reduction in energy consumption compared to the relevant ASHRAE standards using one of the software programs approved by the U.S. Department of Energy
- A certification from an independent third party that states the energy-efficient property used in the model was actually installed in the building. This individual must be licensed in the jurisdiction where the property is located and must perform an on-site inspection
- Calculation of the deduction based on square feet compared to the actual cost of the energy-efficient property
Section 179D can be a powerful tax incentive for architects, engineers, and other design firms, but careful attention should be paid to ensure the deduction is correctly calculated and documented. Consulting with a service provider with both tax and engineering expertise is essential. If you have been or are involved in a government project that may qualify for §179D, BKD’s team of engineers and tax professionals can evaluate the buildings in question and your role in the design to help you assess eligibility and request allocations and provide certification reports.
For more information, reach out to your BKD Trusted Advisor™ or submit the Contact Us form below.