Constructing or improving buildings to be energy efficient may help you meet sustainability goals and it could also increase your cash flow and reduce federal income tax liability.

Sections 179D and 45L of the US tax code can provide tax incentives for energy efficient buildings. It’s important to note the difference between a tax deduction like Section 179D and tax credit like Section 45L; tax credits may be more valuable because they can offset tax liabilities while tax deductions are typically used to reduce taxable income.

Both incentives—detailed below—must be certified by a third-party advisor as required by the tax law. Confidently pursue these incentives and put money back into your business with guidance and certification from our professionals.  

Section 179D Tax Deduction

The Section 179D deduction allows for up to $1.80 per square foot for taxpayers —or the designer if the building is government-owned—that improve the efficiency of their commercial and residential rental buildings that are four stories high or more, above certain thresholds.

The 179D tax deduction is a permanent part of the tax code and doesn’t expire.         

To What Type of Buildings Does the Section 179 Tax Deduction Apply?

The deduction applies to newly constructed or improved buildings that exceed the most recent Standard 90.1 published by the American Society of Heating, Refrigerating, and Air Conditioning Engineers (ASHRAE) and the Illuminating Engineering Society of North America—no later than two years before the date that construction of such property began.

The provision applies to reduced energy costs in three areas:

• Building envelope
• Heating, cooling, ventilation, and hot water systems (HVAC)
• Interior lighting systems

Who Can Claim the Section 179D Tax Deduction?

The following taxpayers are eligible to claim the energy efficient building deduction:

• Owners and tenants of commercial buildings who have built or installed improvements
• Owners of four-story or greater residential buildings who have built or installed improvements
• Designers of government-owned buildings, such as architects, engineers, or contractors

Businesses in many industries can benefit from the deduction, but it can prove especially valuable for the following:

• Automotive and dealer services
• Education
• Health care
• Hospitality
• Manufacturing
• Real estate
• Retail

How Is the Section 179D Tax Deduction Calculated?

The deduction is calculated based on the square footage of these improvements. The larger the building, the greater the potential for significant tax deductions.

Depending on the level of energy efficiency, potential deductions can include the following:

• Maximum deduction is $1.80 per square foot for a 50% reduction in total annual energy and power costs with respect to the combined usage of all three systems.
• Partial deduction is $0.60 per square foot, per system, for reductions of energy consumption related to the interior lighting, HVAC, or envelope.

Deductions for lighting are $0.30 to $0.60 per square foot, based on the reduction in lighting power density for lighting watts per square foot when compared to the ASHRAE reference building.

Can You Claim Previous Improvements for the Section 179D Tax Deduction?

It’s not too late to claim deductions for improvements made in previous years as well. For commercial building owners, improvements made after January 1, 2006 are eligible, and benefits can still be captured on a look-back basis.

Property owners can claim these deductions using an accounting method change when filing current-year tax returns without needing to amend previous returns.

For designers, benefits can be claimed for the current year and any open tax years, approximately three years back, by filing an amended tax return.

Section 45L Tax Credit

The energy efficient home tax credit under Section 45L has been in place since 2005 and recently extended to include tax years ending prior to December 31, 2021.

The $2,000 per dwelling unit credit is for contractors who constructed, manufactured, or substantially renovated energy efficient single or multifamily—three-stories or less—residential dwelling units that are then sold, leased, or rented for the first time as a residence.

It’s also available for prior open tax years—typically two to three years back—by filing an amended income tax return.

How Is Energy Efficient Defined for the Section 45L Tax Credit?

The dwelling unit must be tested and certified to have a projected level of at least 50% reduction of heating and cooling energy consumption to that of a reference property in the same climate zone.

The dwelling unit must also include building envelope—such as insulation or energy efficient windows—and component improvements that provide for a level of heating and cooling energy consumption reduction of at least 10% on their own.

Who Can Qualify as Contractors for the Section 45L Tax Credit?

Eligible contractors are defined as those who constructed the energy efficient residential dwelling unit and both own and have a basis in the property during its construction.

This can include any of the following that hire a third-party contractor to complete the work:

• Individuals
• Trusts
• Estates
• Partnerships
• Association
• Company or corporation

 What Types of Property Qualify for the Section 45L Tax Credit?

Qualifying properties include:

• Single-family homes
• Multifamily townhomes, condominiums, duplexes, and apartments that are three-stories above grade or less not including below-grade parking
• House boats
• Trailer homes
• Manufactured homes—eligible for $1,000 credit with a 30% reduction

Properties can be primary or vacation residences and must be:

• Newly constructed or sustainably renovated
• Located in the United States
• Substantially completed between August 8, 2005 and December 31, 2021

Savings Example

Consider a 150-unit multifamily residential facility completed in tax year 2020 that has 137 units that were rented, leased, or sold during the contractor’s same tax year.

A sampling of the 137 newly transferred units all passed the energy efficiency testing and upon certification are eligible for a total tax credit of $274,000. The remaining units could also be eligible for the credit in the tax year they are rented, leased, sold, or otherwise transferred for the first time.

Engineering and Financial Expertise

To help you streamline the Section 179D and 45L energy efficient building tax incentive processes, our team features a range of professionals including licensed contractors, professional engineers, CPAs, enrolled agents, and LEED certified individuals specializing in energy efficient buildings.

Guidance from our professionals has saved taxpayers millions of dollars through these deductions and credits, and we offer support throughout the entire process—from the design phase through the final punch list.