When and why residential real estate developers should consider it

The Federal Section 45L Energy Efficient Home Tax Credit is relatively new and little known, but those who take advantage of it can reap substantial benefits.

Consider the following tax outcomes.

• After due diligence, a housing developer in Connecticut received a tax credit of $2,000 for each of its 144 units.
• A 296-unit development in New Jersey is in the process of receiving a $592,000 tax credit for 2015.

To qualify for the Section 45L Credit, the entities had to construct or rehabilitate individual housing units to comply with defined standards of energy efficiency. Compliance is determined through certification by an engineer hired to conduct a cost segregation study.

Different types of residential housing can qualify, including apartments, townhomes and detached houses. New and rehabbed housing both qualify, although the construction standards are easier to meet with new housing.

The most obvious benefit to developers and real estate investors is the tax credit of as much as $2,000 per unit, and some investors have relied, in part, on the Section 45L tax credit to provide funding for the construction of additional units in the same development. A secondary benefit is the higher quality standards of construction that must be maintained to earn the credit. Although meeting the standards raises construction costs, this expenditure is often offset by the increase in property values and lower energy costs.

Many developers and builders who have shown interest in the Section 45L credit are developing larger tracts consisting of 50 units or more. Here are a few of the finer points that you and your accountant should consider when thinking about taking advantage of the Section 45L credit.

• The property must be no more than three levels in height. By the legal definition used here, a below-ground floor, or even a single-story parking garage, counts as one level. For this reason, developments that take maximum advantage of the Section 45L tend to consist of multiple three-level structures.
• The maximum tax savings per unit is $2,000. The actual credit amount could be lower and is affected by a variety of factors, which will be determined by conducting a cost benefit analysis on your property.
• The unit must be sold or leased for a credit to be realized. The Section 45L credit can only be used during tax years in which the unit is sold or leased.
• The tax code is subject to annual reauthorization. That means Congress must reauthorize it every year, so it’s possible that Section 45L tax benefits could be rescinded. However, this doesn’t seem to be a threat anytime soon.
• The tax savings are partially offset by the loss of the ability of the investor to take tax depreciation on units subject to 45L savings. 

If you are interested in further exploring the possible tax benefits of building or rehabbing your next residential property to Section 45L standards, contact your accountant. The accountant will begin by auditing your plans, then work with a cost segregation firm to determine what you will have to do to qualify for the Section 45L Energy Efficient Home Tax Credit.

As co-partner in charge of the Real Estate and Construction Services Group at Wiss & Company LLC, Alexander Narcise, CPA specializes in areas of accounting, audit and tax for family-owned real estate businesses. Reach him at anarcise@wiss.visioncreativegroup.com.