How Real Estate and Construction Companies Can Take Advantage of the Expanded Section 45L Tax Credit

MARK COOTER: Welcome to today's Real Estate and Construction podcast. I'm Mark Cooter, leader of the Cherry Bekaert Real Estate and Construction Practice.

MARK COOTER: I'm joined today by a member of our Tax Credit and Incentive Advisory group, Ron Wainwright. Ron, can you introduce yourself to our audience?

RON WAINWRIGHT: My name is Ron Wainwright. I am a strategic tax partner with Cherry Bekaert, and I lead our energy practice for the firm. I am located in Raleigh, North Carolina.

MARK COOTER: Thank you, Ron. Today we've released information on the updated 45L residential energy tax credit. Listeners can find that on our website, and we will continue to update details as more information is released.

MARK COOTER: For those who don't have background in this area, Ron, can you give us a little background on the 45L credit?

RON WAINWRIGHT: The 45L credit, often referred to as the residential energy credit, was enacted by the Energy Policy Act of 2005. It was extended periodically and is now made permanent through 2032 under the Inflation Reduction Act of 2022.

RON WAINWRIGHT: The credit was created to incentivize developers of energy-efficient single-family and multifamily homes. Certifications are required, and under the Energy Policy Act of 2005 the credit was $2,000 per qualified unit, limited to buildings three stories above grade, and targeted newly constructed or substantially renovated homes.

RON WAINWRIGHT: Eligible parties under both prior and current law are developers and contractors, regardless of when the home was sold or leased. Under prior law the credit applied in the year the home was first sold or leased, up to $2,000. Under the Inflation Reduction Act of 2022 that amount increases.

MARK COOTER: What are the other advantages of the 45L credit to someone in real estate or construction?

RON WAINWRIGHT: The Inflation Reduction Act of 2022 made substantial changes and expansions to the 45L credit. This is a federal subsidy for developers or general contractors building residential or multi-residential units. Effective January 1, 2023, the base credit increased from $2,000 to $2,500 per qualified unit.

RON WAINWRIGHT: If developers meet the prevailing wage and apprenticeship requirements, the unit value increases to $5,000. The credit applies when you sell or lease the unit, and it is a dollar-for-dollar offset against tax liability.

RON WAINWRIGHT: The energy efficiency standards also changed. Prior to January 1, 2023, the standard was RESNET. The new standards are ENERGY STAR or Zero Energy Ready Homes, with updates to ENERGY STAR requirements expected in 2025.

RON WAINWRIGHT: As an example, under old law a 50-unit project would generate 50 times $2,000, or $100,000 of credit. Under new law at $2,500 per unit that same project would generate $125,000, and if prevailing wage and apprenticeship requirements are met the value could be $250,000.

RON WAINWRIGHT: This is often an overlooked opportunity. For example, a new client placed 250 single-family homes in service in 2021 and 2022. We modeled and certified the units, as required by statute with an independent party, and the developer received an additional $430,000 of credit.

RON WAINWRIGHT: Another client placed 274 apartment units in service in 2021 and 2022. Under the prior law at $2,000 per unit that represented $548,000 of credit, which had been overlooked by their prior provider.

RON WAINWRIGHT: When considering opportunities for an asset, you should look at cost segregation, 45L, and Section 179D together. That combination can create a significant tax benefit for real estate and construction companies, whether they sell the asset or continue to own it.

MARK COOTER: That is substantial. Are there other new requirements under the Inflation Reduction Act we should know about to achieve the $5,000 amount?

RON WAINWRIGHT: Yes. One key requirement is the prevailing wage and apprenticeship requirement introduced in the Inflation Reduction Act of 2022. The policy aims to drive job creation and apprenticeship programs in the United States.

RON WAINWRIGHT: The base credit is $2,500 and can be doubled to $5,000 if you satisfy both prevailing wage and apprenticeship requirements. The IRS issued initial guidance in Notice 2261 describing how to satisfy those requirements.

RON WAINWRIGHT: The prevailing wage requirement means wages paid to contractors and subcontractors must be at least the Department of Labor's prevailing rate for construction in the locality where the asset is being built. This applies to construction beginning after January 30, 2023.

RON WAINWRIGHT: The apprenticeship requirement requires hours worked by qualified apprentices to make up a specified percentage of the total hours on the construction project. The percentage varies based on the date construction begins.

RON WAINWRIGHT: If construction began before January 1, 2023 and the asset is placed in service in 2023, there is a 10% apprenticeship-hours threshold. For construction that begins after 2022 but before January 2024 the threshold is 12.5%. On or after January 2024 the threshold is 15%.

RON WAINWRIGHT: There is complexity in meeting these requirements, including grandfather and cure provisions. We work with clients to monitor wages and apprentice hours on a quarterly, semi-annual, and annual basis to maximize the $5,000 credit and manage compliance.

RON WAINWRIGHT: There are also good-faith effort exceptions that may apply. Working with an experienced firm is important to navigate these rules.

RON WAINWRIGHT: We offer a complementary scoping assessment and identification process to show clients how projects meet the Department of Energy and statutory requirements effective January 1, 2023.

MARK COOTER: If someone missed this credit on a past development, can they go back and claim it?

RON WAINWRIGHT: Yes. Generally you can amend returns and go back up to three years from the original filing or superseded return, following the statute of limitations. We can look back three years for missed opportunities in 2021 and 2022.

RON WAINWRIGHT: The Inflation Reduction Act also allows carrying back certain credits up to three years. You would amend the return accordingly to claim missed credits within the applicable timeframes.

MARK COOTER: Thank you, Ron. I think we've covered a lot of ground on how the real estate and construction industry can benefit from 45L and what the credit entails. We will dive deeper into prevailing wage and apprenticeship requirements in a future episode and post additional thought leadership on our website.

RON WAINWRIGHT: This is an opportunity that has been overlooked since the Energy Policy Act of 2005. Developers, contractors, and subcontractors have frequently missed these credits, and even a $2,000 per unit credit can be substantial given the scale of multi-residential and residential construction.

RON WAINWRIGHT: As a final note, the prior limitation to buildings three stories above grade has been removed. Vertical assets now qualify, and Section 179D, an energy-efficiency deduction, can be applied alongside 45L.

RON WAINWRIGHT: For example, we worked on an asset placed in service in 2023 with 346 units and about 460,000 square feet. We achieved the $5,000 per unit credit under 45L while also applying the Section 179D deduction based on gross square footage. That client received $1,730,000 in 45L credits and $2,300,000 in deductions.

RON WAINWRIGHT: That combination is what I refer to as the trifecta. We will discuss these opportunities in future episodes.

MARK COOTER: Thank you, Ron, for joining us today.

RON WAINWRIGHT: Thank you.