In Summary
- To qualify for the Section 179D energy-efficient commercial building deduction, construction must officially begin by June 30, 2026, which can be established via the “physical work test” or by incurring at least 5% of total project costs.
- Businesses can earn between $0.58 and $5.81 per square foot depending on energy savings (minimum 25% reduction) and whether the project meets specific prevailing wage and apprenticeship labor requirements.
Construction companies planning on energy-efficient commercial projects are approaching a key deadline. The Energy Efficient Commercial Building Deduction under Section 179D expires for projects that begin construction after June 30, 2026. For projects still in development, that deadline may determine whether the deduction is available. In many cases, the difference comes down to whether construction activity begins soon enough and whether that activity is properly documented. Contractors will want to review timelines to take advantage of this opportunity. To help clients, prospects, and others, Hanson & Co has summarized the key details below.
Background
Section 179D has been part of the federal tax code for more than 20 years. It was made permanent in 2020 and later expanded under the Inflation Reduction Act, which increased deduction amounts and introduced prevailing wage and apprenticeship requirements. More recently, the One Big Beautiful Bill Act (OBBBA) changed the status of several energy tax credits, including Section 179D. Businesses claiming this deduction now have a construction start deadline of June 30, 2026.
What Projects Qualify
Section 179D applies to energy-efficient improvements in commercial buildings, including both new construction and upgrades or retrofits.
The deduction focuses on three main building systems:
- Interior lighting systems
- HVAC and hot water systems
- The building envelope, including insulation and windows
To qualify, the building must achieve at least a 25% reduction in projected energy costs compared to industry standards. This must be supported by an approved energy study and certified by a qualified professional.
Some projects qualify based on improvements to individual systems, but the required energy reduction is evaluated based on overall building performance. Not every upgrade will qualify on its own. That is often where coordination between design and construction teams becomes important.
The building owner generally claims the deduction. However, tax-exempt entities, including government agencies, schools, and many nonprofit organizations, have an opportunity as well. In this case, the deduction may be allocated to the designer responsible for the energy-efficient improvements. Designers can include architects, engineers, and contractors. The allocation is not automatic and must be coordinated between the involved parties.
How Much the Deduction Is Worth
The deduction is calculated on a per-square-foot basis. The range depends on energy performance and whether prevailing wage and apprenticeship requirements are met.
Projects that meet the energy threshold but not labor requirements fall into a lower range:
- Starts at $0.58 per square foot at 25% energy savings
- Increases by $0.02 for each additional percentage point
- Maximum of $1.16 per square foot
Projects that meet both energy and labor requirements qualify for a higher range:
- Starts at $2.90 per square foot at 25% energy savings
- Increases by $0.12 per additional percentage point
- Maximum of $5.81 per square foot
Consider a 20,000-square-foot office building at the 25% threshold. It would generate a deduction of roughly $11,600 (20,000 x 0.58) without labor compliance or $58,000 (20,000 x 2.90) if labor requirements are met. As energy performance increases by percentage point, the deduction increases within each range.
The total deduction is generally limited to the cost of the qualifying property placed in service. In some cases, that cap determines the final benefit more than the per-square-foot calculation.
Timing Requirements
To qualify under current law, construction must begin before June 30, 2026. The project does not need to be completed by that date, but it must meet one of the IRS-recognized methods for establishing the start of construction.
The first option is the physical work test. It says that construction begins when on-site work is significant. This typically includes foundation work or installation of energy-efficient building systems. Activities such as permitting, design, financing, or site prep generally do not meet this standard.
The second option is the safe harbor test. It says that construction begins when at least 5% of total project costs have been incurred. That can include payments for materials or equipment needed for the project, even if installation has not yet started.
After one of these thresholds is met, the project must continue to move forward. Extended delays or gaps in activity can put the start date in question. If neither test is met before the deadline, the deduction is not available. Energy performance alone does not change that result.
The deduction is reported on Form 7205. Supporting documentation should include the energy certification, modeling results, construction records, and documentation establishing the construction start date. Projects should also be able to demonstrate compliance with prevailing wage and apprenticeship requirements, if needed.
Contact Us
Section 179D is a valuable tax saving opportunity, but the window is limited. Contractors and building owners are encouraged to review projects already in the pipeline and confirm eligibility requirements. Some projects may benefit from an accelerated timeline to meet the deadline of June 30, 2026. If you have questions about the information outlined above or need assistance with another tax or accounting issue, Hanson & Co can help. For additional information call 303-388-1010 or click here to contact us. We look forward to speaking with you soon.