In October 2008, the U.S. Congress passed the Energy Improvement and Extension Act of 2008 (Extension Act) as part of the economic recovery package. Included in the Extension Act was the expansion of federal tax incentives for energy-efficient buildings and renewable energy sources that may be of interest to commercial and residential developers and owners.
Energy Efficient Commercial Buildings Deduction
The Energy Efficient Commercial Buildings Deduction grants a federal tax deduction for expenditures on property and improvements installed by commercial building owners in order for those buildings to meet certain efficiency standards. Created by the Energy Policy Act of 2005, the deduction would have expired on December 31, 2008. The Extension Act extended the deduction through December 31, 2013.
The deduction is primarily available as a $1.80-per-square foot deduction in the year in which the energy-efficient property is placed in service. In order to claim the full deduction, the owner must receive certification that the building’s interior lighting system; heating, cooling, ventilation, and hot water systems; and building envelope system reduce the total annual energy costs of those systems by 50 percent when compared to a building built to meet certain industry efficiency standards.
If a building does not meet the 50-percent reduction requirements for the full deduction, a partial deduction also is possible. A building owner may deduct 60 cents per square foot if any one of the three subsystems mentioned above reduces the building’s total energy costs by a certain percentage. The relevant percentages have recently been changed to 10 percent for the building envelope and 20 percent each for lighting systems and heating and cooling systems. Use of these updated percentages was discretionary originally, but from 2009 and on, the new percentage requirements are the only ones that may be used to calculate a partial deduction.
Congress also created a simplified method for a partial deduction for reduced energy consumption by lighting systems. The Commercial Buildings Deduction’s Interim Rules for Lighting Systems (Interim Lighting Rule) continues to be available for building owners until the Internal Revenue Service issues final regulations indicating otherwise. Under the Interim Lighting Rule, a 60-cent-per-square-foot partial deduction is available for a 40-percent reduction in lighting power density when compared to a reference building. A lesser deduction also is available for systems that reduce lighting power density to less than the 40-percent target. Meanwhile, warehouses must meet higher reduction requirements. No calculations for the reduction in total energy costs of the building are needed. With the relative ease of calculating the reduction, many building owners can take this simple step to begin enjoying the tax benefits offered by Congress.
New Energy Efficient Home Credit
The New Energy Efficient Home Credit provides a federal tax credit for contractors building new energy-efficient homes and manufactured homes. Like the Commercial Buildings Deduction, the credit was created by the Energy Policy Act of 2005 and would have expired on December 31, 2008. The Extension Act extended the credit through December 31, 2009.
The credit allowable is either $2,000 or $1,000, taken in the year in which the home is acquired from the contractor by a residential owner. A home qualifies for the $2,000 credit if it is a new home or manufactured home, with three or fewer stories, and demonstrates a 50-percent reduction in heating and cooling energy consumption when compared to a reference building that meets certain minimum industry standards. Additionally, one-fifth of this reduction, a 10-percent reduction in total energy consumption, must be attributable to improvements in the building envelope.
The $1,000 applies only to manufactured homes, which can qualify either by demonstrating a 30-percent reduction in heating- and cooling-associated energy costs (with 10 percent attributable to building envelope improvements) or by meeting the requirements of the ENERGY STAR Qualified New Homes Program.
The New Energy Efficient Home Credit is part of the § 38 General Business Credit and is subject to the general limitations and rules of that section.
The Energy Credit provides a federal tax credit for building owners installing sources of alternative energy or alternative heating and cooling systems. The credit was created by the Revenue Act of 1962. The credit was later expanded by the Energy Policy Act of 2005 to include fuel cells, microturbines, and hybrid solar lighting. These credits were scheduled to apply to property installed before January 1, 2009. The Extension Act expanded the Energy Credit to include small wind systems, combined heating and power (CHP), and geothermal heat pump systems and extended the credit to apply to property installed before January 1, 2017.
The Energy Credit granted by Internal Revenue Code § 48 is for a given percentage of expenses associated with each energy source. Credits of 30 percent of expenditures are available for solar power, fuels cells, and small wind systems. Credits of 10 percent of expenditures are available for geothermal, microturbine, and CHP systems. Most types of energy property have no maximum credit limit, though some are capped at a certain dollar amount per kilowatt (kW) of energy capacity of the installed system. One such cap, for fuel cell properties, was tripled by the recent Extension Act, from $500 per 0.5 kW to $1,500 per 0.5 kW. Various electricity generation efficiency requirements also apply.
The Extension Act broadened the Energy Credit in two more substantial ways. First, while the credit is part of the General Business Credit framework of § 38, it is now no longer subject to the Alternative Minimum Tax (AMT) limitation that restricts most other § 38 credits. Instead, the credits can be used against the AMT (though some limitations on the extent of the credit do still exist). Second, the Extension Act removed statutory language barring the credit for public utility property. Therefore, while most utility-scale projects still fall under other credits such as the § 45 Renewable Energy Credit, public utilities will now be able to make use of the Energy Credit for those technologies that are not covered by other credits and were previously unavailable to them under § 48.
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If you have any questions about this alert or would like to discuss the topic further, please contact your Foley attorney or the following individuals:
Elizabeth L. Corey
Chair, Real Estate Practice
Andrew R. Kettenbrink