New Energy-Efficient Home Credit
Although this incentive is scheduled to sunset at the end of this year, IRC § 45L has since August 2005 allowed eligible contractors that construct new energy-efficient homes to claim a federal tax credit of $2,000 for each new home they sell. A qualified energy-efficient home is one that is certified to consume at least 50% less energy for heating and cooling than that of a comparable home constructed in accordance with the standards of section 404 of the 2004 Supplement to the 2003 International Energy Conservation Code (2004 Supplement), and to have building envelope component improvements that provide for a level of heating and cooling energy consumption that is at least 10% below that of a comparable home. In addition to meeting these requirements, manufactured homes must also meet the Federal Manufactured Home Construction and Safety Standards (24 CFR part 3280). A reduced credit of $1,000 is also available for manufactured homes that meet certain lower standards.
The intent is to encourage builders to invest more in these efficiencies by allowing them to offset some or all of the cost through the credit. Since the credit is per qualifying home, this can add up to a sizable tax benefit. In addition, of course, homeowners will realize monthly savings on energy bills, and probably higher home values, as a result of these enhancements to the property.
As with the section 179D deduction, the certification is made by a licensed professional engineer or a contractor who is unrelated to the homebuilder or manufacturer. Many homebuilders who build in accordance with Leadership in Energy and Environmental Design (LEED) standards will qualify for this credit, and others who might not qualify could do so with relatively minor construction changes. LEED was developed by the U.S. Green Building Council for rating a building's site design, water and energy conservation, use of environmentally friendly materials and other criteria. The certification must come from an individual certified by the Residential Energy Services Network (or an equivalent rating network) to conduct these studies, using software approved by the IRS for this purpose. As with the section 179D deduction outlined above, this certification is not attached to the tax return but is maintained in the taxpayer's files in case the IRS conducts an inquiry or examination.
These provisions are outlined in IRC § 45L, and further guidance is provided in IRS Notice 2006-27. The credit coordinates with the other components of the general business tax credit under section 38 and reduces the taxpayer's basis in the building. Unused current-year credits may be carried back one year or forward up to 20 years. Although this credit is set to sunset at the end of this year, others were extended through 2010 and in some cases expanded by the ARRA. Among these is the section 25C residential building improvement credit available to homeowners.
Section 25C Residential Home Improvement Credit
For 2009 and 2010, this credit is expanded from 10% to 30% of qualifying improvements, with a lifetime cap per taxpayer of $1,500. Prior credits claimed under similar rules in effect before 2009 do not reduce this credit.
Qualifying improvements include installing insulation materials, exterior windows (including skylights), exterior doors, central air conditioners, natural gas, propane or oil water heaters or furnaces, hot water boilers, electric heat pump water heaters, certain metal roofs and stoves, and advanced main air circulating fans. These improvements qualify only if made to existing homes. The improvements must meet certain efficiency guidelines published by the IRS (see especially an interim guidance update, Notice 2009-53, issued June 1, 2009), and the vendor will typically be able to determine if an item qualifies.
Section 25D Residential Credit For Certain Energy-Efficient Items
Another ARRA amendment allows increased credits for installing state-of-the-art energy-efficient systems in new or existing homes through 2016. A 30% tax credit is available for geothermal heat pumps, solar panels, solar water heaters, small wind energy systems and fuel cells (IRC § 25D). The credit applies to the cost of labor and installation as well as the cost of the equipment. Except for fuel cell credits, which qualify only if made to an existing principal residence, these credits are also available for improvements to rental properties and second homes. There is no cap on the amount of credit that can be claimed. IRS Form 5695, Residential Energy Efficient Property Credit, has been developed to assist taxpayers with claiming this credit. See also interim guidance in Notice 2009-41, issued April 22, 2009.
Accelerated Depreciation For "Smart" Electrical Systems
The EESA amended the IRC § 168 MACRS (modified accelerated cost recovery system) provisions to assign a 10-year recovery period to qualified "smart" electric meters and grid systems (section 168(e)(3)(D)(iii) and (iv)). Otherwise, electrical transmission and distribution equipment and related land improvements generally are 20-year property. The property must have been placed in service after Oct. 3, 2008. The taxpayer realizing the enhanced depreciation, of course, is generally an electrical utility. But smart meters can benefit electric customers as well (see sidebar, "Smarter Electric Power," below).
On behalf of their clients, particularly those in construction trades, CPAs can review these federal provisions as well as state and local ones in their jurisdiction. Often, the local or state taxing authority will be helpful for gaining a full understanding of additional tax incentives, in addition to providing information regarding any loan or grant incentives that might be available.
Ralph S. Watson II, CPA, is managing member of Concord Financial Group LLC and Concord Family Office LLC of Midway, Ky. His e-mail address is [email protected]. This article was first published in the Journal of Accountancy.
SIDEBAR 1: Smarter Electric Power
Old-fashioned meters mechanically record and display cumulative kilowatt-hours. A smart meter, on the other hand, operates digitally and can communicate by digital radio signal to both the utility and the customer, showing electricity consumption over time. This information allows utilities to price power higher for peak usage time throughout the grid and lower for times of less demand. Potentially, customers can monitor and adjust their power use to save on their electric bills, while helping even out gridwide peaks and valleys of demand. More predictable power use should in theory yield lower rates as utilities rely more on their own generating capacity and less on buying power from each other. The smart meter also allows utilities to read meters remotely.
Likewise, a smart grid uses similar technology to increase the efficiency of energy flow through the system.
SIDEBAR 2: Summary
In the past two years, several federal tax incentives have been extended and expanded for designing and constructing or remodeling energy-efficient buildings, both residential and commercial.
A deduction of up to $1.80 per square foot is available through 2013 for certain energy-efficient features in a commercial building construction or retrofit.
Homebuilders may claim a credit of $2,000 per certified energy-efficient home they build. This section 45L credit sunsets this year.
The section 25C residential home improvement credit for installing insulation, new windows and certain heating and cooling and other systems has been increased this year and next, as has the section 25D credit for state-of-the-art residential green energy systems such as solarand wind-generated power systems.
The depreciation recovery period for "smart" electrical meters and grid systems has been halved to 10 years.