Applying the 179D Tax Deduction to Your Building Project
Although energy efficiency improvements lower the long-term cost of building ownership, they can add to a project’s initial construction budget. Thankfully, there are many programs available to help offset these initial costs and make the investment in high-performing building systems more feasible.
One program is the Energy Efficient Commercial Building deduction under 179D of the Internal Revenue Code. The program began in 2005 to incentivize sustainable design and reduce the built environment’s energy consumption. In 2022, it expanded under the Inflation Reduction Act (IRA) to provide larger deductions and greater access for retrofit projects.
We’ve guided many clients through this program, helping them understand its requirements and the available deductions. This article will explain the 179D deduction by answering the following questions:
- What is the 179D deduction?
- What are the program’s requirements?
- What is the verification process?
After reading, you will better understand how you can take advantage of this program and offset the cost of energy efficiency improvements.
What is the 179D Tax Deduction?
The 179D tax deduction incentivizes commercial building owners and developers to invest in energy-efficient design. Commercial buildings and multifamily developments over four stories can receive deductions for property outlined in the American Society of Heating, Refrigerating, and Air Conditioning Engineers (ASHRAE) 90.1 Standard and the Illuminating Engineering Society of North America.
This property includes:
- Interior lighting systems
- Heating, cooling, ventilation (HVAC), and hot water systems
- Building envelope systems like windows and roofing
The program also incentivizes green design for government buildings. Government entities like public schools can allocate the tax deduction to the person “primarily responsible” for the building’s design, typically an architect or engineer.
Under the IRA, other tax-exempt entities can allocate deductions, including non-profits, Indian Tribal Governments, and Alaska Native Corporations. These allocations are a win-win, incentivizing the design team to lower energy use while helping tax-exempt organizations achieve lower operating costs.
What Are the Program’s Requirements?
179D deductions are based on the energy savings achieved. Under the current program, a base deduction with a sliding scale starts at 54 cents per square foot once the building meets a 25% energy reduction.
For new buildings, energy reductions are based on the ASHRAE 90.1 standard, meaning the building must perform 25% better than the standard’s baseline. Retrofit projects can use the building’s previous Energy Use Intensity as a comparison.
Previously, retrofits were also compared to the ASHRAE 90.1 baseline, but under the IRA, the rules have changed. The program is now more accessible to a greater range of project types that may have struggled to reach a 25% reduction compared to the ASHRAE baseline.
Every percentage point achieved beyond the 25% reduction allows for an additional 2-cent-per-square-foot deduction, maxing out at $1.07 per square foot.
Under the IRA, the program now has requirements for prevailing wages and apprenticeship programs. For projects meeting these requirements, the sliding scale starts at $2.68 per square foot after the 25% reduction. Every percentage point beyond 25% allows for an additional 11 cents per square foot, with a maximum amount of $5.36 per square foot for a reduction of 50% or greater.
What is the Verification Process?
If you plan to pursue the 179D deduction, your design team will work with you to ensure the project meets energy efficiency standards. Glazing, insulation, electrical systems, and mechanical systems will have the greatest impact on the project’s energy performance.
For example, we recently pursued the 179D deduction for our Iowa City studio renovation. Upgrading the mechanical system to a Variable Refrigerant Flow (VRF) helped reduce our energy consumption by an estimated 41%.
To receive a deduction, a third party must verify the project’s performance. Your architect can help you find an energy consultant who will visit the site and determine the building’s Energy Use Intensity.
Discover Other Incentives for Sustainable Design
A commercial building is a significant investment with long-term cost implications. Improving performance and lowering energy costs should be key goals when undertaking a commercial project.
Although improving performance can increase initial construction costs, there are many financial incentives available to make the investment more feasible. The 179D program can provide a sizable deduction for commercial owners, especially when prevailing wage and apprenticeship requirements are met.
Commercial owners and developers in Iowa can also take advantage of the Commercial New Construction program. Created in partnership with MidAmerican Energy, Alliant Energy, and Willdan, the program provides design assistance and energy rebates.
Learn more about the program by reading about its requirements and process.