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November 30, 2022

Understanding the §179D Tax Deduction for Humans, Part 2

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Examining the effects of the Inflation Reduction Act on §179D

Welcome to part two of our series on the IRS Section 179D tax deduction. We explained how the §179D tax deduction works and who qualifies for it in part one. For this entry, we’ll take a look at the future of our plucky lil’ write-off friend, focusing mainly on the effects of the Inflation Reduction Act of 2022 (hint: those effects have nothing to do with inflation.)

How will the Inflation Reduction Act of 2022 affect §179D?

The Inflation Reduction Act of 2022 spells out specific changes to §179D. The most substantial of these are:

  1. The minimum requirements for qualifying for some deduction under §179D
  2. The maximum possible write-off

Let’s start with #1, because it only took us three tries to pass kindergarten, and we’re pretty sure that one comes before two. Originally, to qualify for §179D, you would need to reduce the energy usage of your HVAC, lighting, and/or building envelope systems down to at least half that of a “standard” building (as defined by ASHRAE).

Starting in 2023, the barrier to entry will be lower—from a percentage standpoint, at least. You can start qualifying for §179D with a 25% reduction in power use, and your deduction scales higher with every point you shave on the way toward a 50% reduction. However, your energy savings will be measured against a more recent version of the ASHRAE standard. So, in some cases, qualifying for §179D will actually be more difficult.

“This makes a lot more sense, as we can look at the overall energy cost savings of the building rather than being limited to partial deductions for individual categories, like HVAC, lighting, and building envelope,” said David Diaz, partner at Walker Reid Strategies. “A lot more buildings should qualify, and the scaling deductions will incentivize them to keep making improvements, even if they never ultimately reach 50%.”

The law also introduces new prevailing wage and apprenticeship requirements that further determine the size of the deduction. If these requirements are met, you qualify for a larger deduction. If not, it’ll be like when we received a box of unsharpened pencils for “honorable mention” at the Accounting News Websites That Start With ‘G’ Awards—at least you got something, but you can’t help but feel like you could’ve done better.

We could try to explain this further, but why not let a table do the work instead?

ENERGY REDUCTION
25% Each add’l % point 50% (or higher)
Deduction if you meet wage req. $2.50/ sq ft $0.10 / sq ft $5.00 / sq ft
Deduction if you don’t meet wage req. $0.50 / sq ft $0.02 / sq ft $1.00 / sq ft

 

It’s that number in the top right that has people the most excited, which brings us to the second item on our list: an increase in the maximum possible deduction, from today’s $1.88 / sq ft to $5.00 / sq ft. That’s roughly a 166% increase, which can add up to some serious savings for owners of large or multiple qualifying buildings.

So, if you want those big savings, all you have to do is:

  1. Bring energy usage down to 50% of a standard building;
  2. Meet the new prevailing wage and apprenticeship requirements;
  3. Satisfy a dozen or so other requirements that we don’t have the space to get into here.

“Qualifying for §179D and maximizing your deduction are still going to be challenging,” Diaz said. “You’ll need to work with a partner like Walker Reid to sort through tax code and the changes, figure out the best way forward, and get certified.”

Additional changes to §179D

The Inflation Reduction Act of 2022 spells out further changes to §179D—but they’re complicated, confusing, and not nearly as exciting as the bump from $1.88 to $5.00.

So, in the spirit of finishing this article so we can get back to playing video games, we’re going to put those changes into a bulleted list and let you figure out the rest. (Just kidding—we’ve been playing video games this entire time.)

    • Tax-exempt building owners may now allocate §179D deductions to designers of energy-efficient commercial buildings (EECB). The rules for allocating §179D to designers are expected to mirror existing ones.
    • There is a new qualifying methodology for analyzing energy use intensity for retrofits.
    • Buildings can get recertified if additional energy improvements are made every three years for privately-owned buildings and every four years for government/tax-exempt owned buildings.
    • Real estate investment trusts (REITs) will now be able to use §179D in calculating profits.

How should you prepare for changes to §179D?

Like any change to the tax code, preparation is key. And the best way to prepare for these new standards is to go ahead and qualify for §179D in its current iteration—and do whatever you can to maximize your deduction now.

“It will take some time to get guidance on exactly how the changes will be applied and how they will affect projects being placed in 2023 and beyond,” Diaz said. “So we highly recommend that you get ahead of the game by starting on §179D now—and Walker Reid can help you do that.”

As the implications of these changes become more widely understood, you should see the emergence of taxpayer-created initiatives designed to take full advantage of §179D. But, again, the prevailing guidance is to start qualifying for §179D now, then take advantage of these programs as they start to pop up.

What will be the long-term effects of changes to §179D?

This is an easy one: A series of apocalyptic plagues that make The Ten Commandments look like a laundry soap commercial.

We’re kidding (we think). We have no clue what to expect from the changes to §179D. But our friends over at Walker Reid have a few ideas.

With all the uncertainty surrounding the law, the Walker Reid team stresses that its thoughts should be considered more like educated guesses than actual predictions. But, since we lost our copy of Responsible Journalism and You years ago, we’re going to print them anyway.

“You may not see a ton of projects qualifying at the full $5.00/sq ft right away, but we think there will be lots of deductions in the $3-4 range,” Diaz said. “We also think you’ll see a major boost in government projects with deductions allocated to designers.”

While this was a perfectly fine answer, we pressed Diaz further, asking him what he thought §179D might look like 20 years from now. Diaz said this was the equivalent of requesting a Tarot reading, but he gave us an answer anyway—in exchange for our promise never to call him again at 3 AM, or ever.

“The need for more energy-efficient infrastructure in response to climate change isn’t going anywhere,” Diaz said. “So I believe the incentives will continue to strengthen and further expand. And with ESG (environmental, social, and governance) taking a seat at the table, CPAs will be brought along for the ride.”

No matter how these changes unfold or what effects they have, Diaz says the most important thing is to work with a trustworthy, proven partner with plenty of §179D experience.

“We are excited to be the go-to partner for building owners, designers, and CPA firms on energy tax incentives and ESG consulting,” Diaz said.

Read part one of our series on understanding the §179D tax deduction here.

ABOUT WALKER STRATEGIES
With over $1 billion in total certified §179D deductions and §45L tax credits, Walker Reid Strategies has experience with proven results. We are a licensed professional engineering firm that specializes in performing §179D studies and §45L certifications. We have refined our processes to maximize financial benefits while reducing our clients’ internal costs and efforts.

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