Ask John Cummings

Hundreds of government property owners (states, counties, cities) have “signed off” on an allocation of tax benefits to architects and other “designers of energy efficient buildings” under the Energy Policy Act of 2005 (“EPAct”).    Occasionally, a government entity without a full understanding of EPAct will hold out.   Why?  And what you can do about it to maximize the benefits available to you.  Read on.

EPAct was enacted in 2005 to encourage green building as a a way to lower energy usage nationwide.  The incentive is $1.80 per square foot in tax deductions for buildings that meet certain energy efficiency requirements in the statute.

In order to encourage green design for government buildings (where there is no federal tax liability and a tax deduction is not an incentive), EPAct specifically made this tax deduction available to the designers of public buildings.

In order for designers to take advantage of the benefits of EPAct, they have to jump through one extra hoop that a private owner would not need to worry about – the owner has to sign off on a “written allocation” of the benefit.

If the government doesn’t understand the statute or is seeing this request from a designer for the first time, they might need a little push and a little education about the Energy Policy Act.   Here’s your cheat sheet.

Background

The EPAct primarily allows the owner of any energy efficient commercial building to take a tax deduction of up to $1.80 per square foot of building cost if the building meets certain energy efficiency criteria.   At the risk of oversimplifying a 550-page statute, the following basic criteria need to be met in order for the owner of a building to qualify for this tax deduction:

1. The commercial building must go into service on or after 1/1/2006 and before 12/31/2013;
2. The building must be certified to be designed to reduce the total annual energy and power costs with respect to the interior lighting systems, heating, cooling, ventilation, and hot water systems of the building by 50 percent or more in comparison to ASHRAE Standard 90.1-2001.
3. The certification of energy efficiency must be made by a properly licensed engineer or contractor unrelated to the taxpayer claiming the deduction

So where do architects and other designers come in?  In a bulletin released by the Treasury in 2008 (Notice 2008-40), a special rule was laid out for “government-owned buildings”.   In order for there to be an incentive to design energy efficient public commercial buildings, someone has to benefit, right?   So, for those cases, Notice 2008-40 creates a “special rule for government-owned buildings”, stating that the owner (governmental entity):

. . . may allocate the § 179D deduction to the person primarily responsible for designing the property (the designer).

So far so good.   A designer, by virtue of the statute, steps into the shoes, as it were, of the owner who would normally take the tax deduction if the owner were a taxpayer.   This is a great boon to the designer, who can be an architect, engineer, or even a general contractor, among others.

The great thing for the designers is that they have no ownership in the building and have been paid a fee to do the design of the building.  Now, by virtue of the statute’s incentive, the designer might also be able to enjoy a sizable tax deduction in the year that the building opens to the public.   What a great incentive!  Now how does a designer take advantage of it?

If the designer were simply the owner of a private commercial building that qualified for the benefits, there would be only one step: Hire an independent engineering firm to conduct the analysis, inspection and certification required by the statute, calculate the tax deduction and then file for the deduction on their tax return.   But a designer, not being the owner of the property in question, has one more step to complete:  obtaining a written allocation of the benefit from the owner.  Here’s everything that is required, right out of Notice 2008-40:

Form of Allocation. An allocation of the § 179D deduction to the designer of a government-owned building must be in writing and will be treated as satisfying the requirements of this section with respect to energy efficient commercial building property (or partially qualifying commercial building property for which a deduction is allowed under § 179D) if the allocation contains all of the following:

1. The name, address, and telephone number of an authorized representative of the owner of the government-owned building;
2. The name, address, and telephone number of an authorized representative of the designer receiving the allocation of the § 179D deduction;
3. The address of the government-owned building on or in which the property is installed;
4. The cost of the property;
5. The date the property is placed in service;
6. The amount of the § 179D deduction allocated to the designer;
7. The signatures of the authorized representatives of both the owner of the government-owned building and the designer or the designer’s authorized representative; and
8. A declaration, applicable to the allocation and any accompanying documents, signed by the authorized representative of the owner of the government owned building, in the following form:  “Under penalties of perjury, I declare that I have examined this allocation, including accompanying documents, and to the best of my knowledge and belief, the facts presented in support of this allocation are true, correct, and complete.”

Should be fairly simple right?    But occasionally, a well-meaning “authorized representative” at the owner entity will question the allocation or raise the old “red tape” problem.   Here’s what to do . . .

The designer needs to let the owner know that the statute provides broad discretion to the owner in determining whom the designer is in a case where there may be more than one designer (such as the case where there is both an architect and an engineer partner) but the statute’s intent does not appear to be to create any power by the owner to deny the allocation.   In IRB 2008-40, the regulations give the owner discretion to allocate the benefit among several designers:

Allocation of the Deduction. If more than one designer is responsible for creating the technical specifications for installation of energy efficient commercial building property (or partially qualifying commercial building property for which a deduction is allowed under § 179D) on or in a government-owned building, the owner of the building shall—

1. determine which designer is primarily responsible and allocate the full deduction to that designer, or
2. at the owner’s discretion, allocate the deduction among several designers.

But that’s about all there is to the “allocation” process in the statute.  Hundreds of pages in the statute detail the requirements to be met in calculating whether the property meets the energy efficiency required, using a particular approved software, with a particular method, by a particularly qualified and independent engineer, etc. etc..   And all the owner is asked to do is verify a few basic items of information on a written allocation.

The “Amount of the Deduction” Issue

One question that comes up from time to time is “what does the Owner put in the allocation for Item 6?”   This is the element that requires the “amount of the section 179D deduction allocated to the designer.”   Unfortunately for some designers, this inartfully worded phrase can interpreted to mean that the owner has to know the dollar amount of the tax deduction before the owner signs off.

This interpretation is not consistent with the statute’s intent that a third party engineer be commissioned to calculate the benefit.   Obviously, neither the Owner nor the designer has any way of knowing the exact dollar amount of the tax deduction until the engineering study is completed in accordance with the statute.  That takes several weeks and costs thousands of dollars in fees.

The inference is obvious, given the unlikelihood that Congress wanted designers to go out of pocket before approaching the owner for allocation, that the word “amount” being used in the allocation requirement ought to mean (or should have been worded as) “percentage” or “how much of”.

Regardless of the dollar amount that is calculated (by the independent engineering firm as required by the statute), the allocation provisions clearly seem to be simply requiring the owner to verify this designer as a designer and if this designer is one of many designers, “how much” of the allocation is the designer entitled to?    Perhaps the designer should fill in the maximum amount allowed under the statute unless another designer is potentially competing for a portion of the benefit.   What about “100%” or “all of it”?     The statute provides no guidance but a practical approach by the designer should obtain the best result when dealing with the owner.

The “Part of a Plan Designed to Reduce Energy Costs” Issue

An owner may raise the question of whether a designer can only be entitled to the deduction if the owner and designer had previously planned to reduce energy costs with the 179D deduction being contemplated at the time.

But that objection should be easily overcome.  The statute merely states that the property must be “certified . . . as being installed as part of a plan designed to reduce the total annual energy and power costs . . . by 50%”.   There is no mention that the 179D deduction should have been contemplated and any suggestion to that effect would render one or two years of the statute’s existence nearly meaningless.   And if you had to make the argument, here’s some support fort the position . . .

The design of a building takes a long time; years in most cases.  The EPAct was signed into law in the fall of 2005.  Prior to that, owners and designers would have had no reason to contemplate a deduction under 179D because it did not exist prior to the fall of 2005.  Yet, the EPAct specifically allows a tax deduction, if the efficiency criteria are met, for properties going into service (finished) as of 1/1/2006.   Nearly every building that went into service in 2006 (and probably most that went into service in 2007 and 2008 for that matter), were designed long before the EPAct existed.

Clearly, “part of a plan designed to reduce energy costs” is not a requirement that the designer contemplated the 179D tax deduction but simply a requirement that the energy and power cost reductions were contemplated.  Otherwise the statute’s date of inception and original expiration date of 12/31/2007, would have made the statute meaningless from inception.    All projects placed in service after 1/1/06 and until 12/31/13 that pass the statute’s requirements qualify, regardless of whether the 179D deduction was contemplated.

What’s In It For Me?

A property owner may object to the allocation simply because they feel that they CAN.   This would certainly be an unreasonable position in light of the Energy Policy Act’s clear intent to incentivize green building but the EPAct does nothing to force an unwilling owner to sign off.  An owner might feel the “what’s in it for me” sentiment and in those cases, it might be prudent to point out that the design that is giving rise the deduction is also creating huge savings for the owner in terms of energy efficiency!

Many owners have happily signed the allocation, knowing that the allocation means that designers will continue to design green buildings, which benefits everyone but if you run into any friction, now you have the info you need to overcome any objections.

Extensive efforts by the American Institute of Architects, along with help from firms like Engineered Tax Services (including involvement by your author), have gone into the shaping of the next iteration of the Energy Policy Act, which many interested parties hope will:

1. Raise the amount of the deduction to $3.00 per square foot;
2. Extend the expiration date to 12/31/2015 or even 2020;
3. Provide guidance about whether not-for-profit buildings should be treated the same as “government” buildings
4. Provide guidance about how partnership and S-Corp. designers can overcome some tax basis problems that the statute creates but does not currently explain.

Perhaps one more request can be added to the list.   Maybe the allocation process should be clearer.  If a designer has a contract with the owner and designed the building, perhaps the owner should be required to verify whether this designer was a designer and if so, simply verify whether the allocation is “100%” of the allocation or a lesser percentage, if other designers are vying for the deduction, rather than be asked to “allocate” which implies “give” and can imply the wrong message.

In other words, leave the calculation of dollar amount in the hands of the third party engineer as contemplated by the statute and simply have the owner sign off to confirm the proper recipient of the intended deduction.

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