As we approach the month of April, we draw closer to the deadline to file our taxes. Though we all experience a bit of dread at this prospect, tax season doesn’t always have to carry a negative connotation. Unknown too many of the clients I work with, are a number of tax exemptions or incentives for the energy related retrofits that they perform. In many cases, the value these deductions present can be as lucrative to the project as the energy savings themselves.
Below is a very high level (and overly simplified) overview of three tax mechanisms available in the market today. There are certainly more to consider (qualified leasehold improvements and bonus depreciation), but these represent the most reoccurring opportunities I have found for my clients. Some have strict deadlines regarding when you can claim the deduction while others require detailed engineering studies. It is important to be aware these opportunities exist, but ultimately, you will want to work closely with your tax professional to capitalize on the full value.
This is probably the most commonly used tax tool we can offer to our clients. This federal legislation was passed in 2005 to provide a tax related incentive for businesses to curtail energy consumption. It offers up to a $1.80 per square foot tax deduction for improvements made to buildings. The deduction is available in three equal parts related to HVAC, Building Envelope, and Lighting. Each is eligible for a deduction of $0.60 per square foot.
Case Study: Recently, I worked with a manufacturing client on an LED retrofit for their facility. The building is approximately 40,000 square feet. This project was eligible for the $0.60 per square foot deduction through 179D. Their write-off on their tax returns is $24,000. To determine the actual monetary impact, we simply multiplied their deduction by their effective tax rate. A top end tax rate of 39.6% yields a value of $9,504 of avoided tax payments.
Removal and Partial Disposition
This tax deduction allows you to write down the remaining depreciable cost basis of what gets thrown in the dumpster during a renovation or improvement of a building. Everything with a deprecation schedule can be included. It is a one-time tax benefit for building owners that can also incorporate the labor on the project. Each building and retrofit project is unique, so deduction values will vary. It is not uncommon to capture 15% to 25% of the total renovation value.
This is an approved IRS mechanism to accelerate depreciation of certain assets. Typically, most owners will utilize a straight line deprecation schedule of 39 years for their whole building. Cost segregation breaks our various components of the building and accelerates their depreciation schedule. Some key elements of cost segregation include the following.
- Depending on the component, depreciation schedules can be reduced to 5, 7, or 15 years
- This can apply to anyone who spent $250K or more on a building or $200K on leasehold improvements
- The building should have been acquired or renovated in the last 15 years
- Benefits will vary, but a general rule of thumb is $50,000 Income Tax Deduction per $1 million of building cost basis. Benefits will range based on building type
Taxes always appear complicated and challenging to understand. Do not allow that to be a deterrent. There are too many great opportunities in the market to capture additional value for the work you are already performing. In addition, in many cases, I have found the deductions my clients can claim often make projects more tenable because of the reduced payback period. If you do not already work with a tax professional that can help you understand your options, feel free to contact me directly (firstname.lastname@example.org) and I can help pair you with a reputable professional in your community.