Has your tax advisor told you about hundreds of thousands of dollars you could save because of this tax deduction? Even worse, have you been asked by a tax client “Why didn’t YOU tell me about this tax deduction?” I take calls from shocked property owners and architects every day who wonder why they are the last to know about and are, in some cases, too late to take full advantage of this deduction.

The next time someone brings up “Section 179D” or “The Energy Policy Act”, don’t stick your head in the sand.   Here’s everything you need to know about the tax deduction that became available over four years ago under the Energy Policy Act of 2005.

WHO GETS IT?
If you own a commercial building that was built (or substantially renovated) after January 1, 2006, you’ve got a property that may be a candidate.  Also, if you are a commercial tenant who owns the asset (building, HVAC, lighting) being depreciated, you may be a candidate.  Finally, if you are the architect, engineer or other designer responsible for the design of a building or renovation owned by a government entity, you may be entitled to a large tax deduction.

WHAT IS THE BENEFIT?
Up to $1.80 per square foot.   That may not sound like a big number but for a hotel owner in Florida that recently took advantage of it, it will mean $1.3 million dollars in tax deductions for their 2010 tax year.    More commonly, buildings are certified in the 60,000 to 120,000 square foot range, resulting in benefits of between $100,000 and $200,000 per building.

WHAT QUALIFIES?
To take advantage of this benefit, your building or renovation not only has to go into service (use) after January 1, 2006, it also has to be energy efficient.   The energy efficiency standard is simple to state but describing the process of how it is proven is complicated and best left to experts in the field.  Simply stated, your new building or the renovations, must be designed to use at least 50% LESS energy than a 2001 baseline.

HOW DO YOU TAKE ADVANTAGE OF IT?
In order to obtain the benefits of this tax deduction, you need to obtain the certification of a licensed, third party. The party certifying must use an approved software and demonstrate that the building’s envelope (walls, roof, windows), lighting and HVAC systems are designed to use at least 50% less energy than the 2001 ASHRAE 90.1 standard. This is a standard set forth by the American Society of Heating, Refrigerating and Air-Conditioning Engineers and the software modeling is used to create two models. One model is the building as designed and the other is the building if designed pursuant to the 2001 standard. The models are compared to see if your building makes the grade. If if does, you can qualify for $1.80 per square foot in deductions.

CAN YOU GET PARTIAL DEDUCTIONS?
Yes. If the building does not meet the 50% standard, each of the systems being reviewed can be qualified separately (HVAC, Envelope and Lighting) for up $.60 per square foot.  Even more specifically, lighting as a separate qualification can qualify partially for between $.30 and $.60 per square foot.

IS AN INSPECTION REQUIRED?
Yes. Believe it or not, the IRS does require that there be a third party verification of the existence of the building and that it is built to the specifications that were modeled for energy efficiency.

DOES A TAXPAYER NEED TO FILE A REPORT WITH THEIR TAX RETURN?
No.  But the engineering report that substantiates the tax deduction should be kept on file in case of an audit. If done properly, the report can be a hundred pages or more.

HOW DO ARCHITECTS QUALIFY?
The tax deductions under the Energy Policy Act are primarily intended to benefit the owner of a commercial property. However, the statute’s intent to incentivize “green” building by giving this tax deduction, was not able to be realized in cases where the owner of the property is a federal, state or local government. Those entities don’t pay federal taxes so the deduction is essentially worthless to them. Accordingly, the statute allows the deduction in those cases, to be allocated to the DESIGNER of the building instead. The “designer” can be the architect, an engineer or any other party responsible for the energy efficient design.

Architects need to obtain a third party study of the energy efficiency of the building in question as an owner would do, but they also need to obtain an allocation of the benefit from the owner as part of their audit trail.  Naturally, the IRS needs to confirm, in the event of an audit, that this particular designer was in fact responsible for the energy efficient design. Placing the responsibility for verifying that in the hands of owner makes sense but the language of the statute with regard to the allocation of 179D benefits to the designer by the owner of the energy efficient building, has been less than perfect.

WHEN DO YOU CLAIM IT?
The tax deduction is taken in the year in which the property is “placed in service” or opens for business. This is typically the date of a temporary certificate of occupancy but it can vary. So, for example, a new school that opens up in 2009, no matter how long the design or construction process took, would give rise to a tax deduction against 2009 income. You can take it on your tax return when filing your 2009 tax return or you an amend you return for up to three tax periods.

Tip:  If you don’t know when your time to claim this benefit will run out on past tax years, find out now.

IS IT A “CREDIT” OR A DEDUCTION?
It is a tax deduction, which means that the “cash value” of it is different than if it were a credit.  Tax “credits” reduce each dollar of tax you pay, whereas tax “deductions” are worth the dollar amount of the deduction, multiplied times your marginal tax rate.  So if you are entitled to a deduction of $100,000 in a year when you are paying taxes at a rate of 35%, the value of that tax deduction to you is $35,000.

DOES IT REDUCE BASIS?
Yes. Owners who take the deduction also must reduce their basis in the building asset.

WHAT IS THE COST OF CERTIFICATION?
Generally, a study can be done at a cost that equates to less than 10% of the amount of your tax deduction or less.  Beware of companies that get paid on a contingency.  You may be overpaying and the IRS may question the independence of the study.  After all, if the company gets paid more if they qualify more, their results may be open to conflict.  Companies that charge a set fee by the square foot will not raise this red flag.

How Large is Your 179D Tax Deduction?
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For more information, please contact:

John J. Cummings, JD
561.254.9185 (direct)
800.236.6519 (office)
jcummings@engineeredtaxservices.com

John J. Cummings, JD is Engineered Tax Services’ National Director of Business Development, specializing in client development, relationship management and strategic direction. He introduces thousands of companies each year to millions of dollars in available tax benefits, with a primary focus on EPAct and engineering-based real estate incentives.

John helps business owners, architects and accounting firms benefit from under-utilized tax benefits in order to increase their profitability, viewing each client’s “big picture” to maximize their opportunities for success. He helps educate and inform clients on the benefits of cost segregation studies, energy audits and EPAct certifications, LEED certifications, research and development credits, historical studies and other specialty engineering-based tax incentives and programs.

John earned a Juris Doctorate degree from Seton Hall University School of Law and a Bachelor of Arts degree from Fordham University. He has served as the Editor of the Constitutional Law Journal and is a prolific writer. John is actively involved in his community and promotes healthy living.

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