The Inflation Reduction Act Expanded the 45L Credit for Affordable Housing Developers. Here’s How to Take Action
December 21, 2022
By: Joseph Wallace, Tax Partner | Real Estate
At a glance
- The main takeaway: The 45L credit provides tax incentives for affordable housing developers who prioritize energy efficiency and sustainability in their new construction projects and units.
- Impact on your business: Changes introduced under the Inflation Reduction Act have increased the amount of tax savings developers can reap from the credit, based on their individual circumstances.
- Next steps: Aprio’s Affordable Housing team can provide the tax and industry-specific expertise you need to ensure you make the most out of the 45L credit.
Schedule a consultation with Aprio today
The full story:
Do you own energy-efficient properties? You could be eligible for a tax credit of up to $5,000 per unit, depending on your circumstances.
The 45L credit is designed to reward affordable housing developers with tax benefits for constructing energy-efficient units. Thanks to new changes to the rules surrounding 45L credits, developers are eligible to secure even bigger savings than before. For instance, a 100-unit project could potentially generate up to $200,000 in credits for 2022 and up to $500,000 in credits in future years.
To understand whether your development company could benefit from the credit, let’s take a quick look at the rules (both the old rules and the new changes recently introduced) and answer some frequently asked questions.
A quick recap of the old 45L rules and regulations
The 45L credit (defined under Internal Revenue Code Section 45L) has been in effect since 2006 and was originally set to expire at the end of last year. The Inflation Reduction Act, signed into law by President Biden in August, extended the credit through December 31, 2032, and introduced changes to update it, which will take effect in 2023 (we’ll explore the changes in further detail below).
Under the old rules, developers were eligible to receive up to $2,000 in tax credits per energy-efficient unit. Developers could not use the credit to offset their alternative minimum tax (AMT) obligation and they were limited to 75% of the tax liability over $25,000.
Developers were not able to claim the 45L credit until their energy-efficient unit(s) was sold or leased, and only residential units were eligible, not commercial properties. Aside from this, the IRS mandated a few other important conditions to claim the credit, including:
- You must own the unit during construction; Section 45L(b)(3) also allows significant reconstruction and rehabilitation to the unit to count as construction
- The property must be no higher than 3 stories above grade
- The unit must have at least a 14 SEER rating
- The unit must be 50% more efficient than a standard unit, in accordance with the 2006 International Energy Conservation Code
- Basis adjustment in the amount of the credit to the property’s basis is required
The new 45L credit: what has changed?
The newly updated 45L credit applies for units built or acquired before December 31, 2032, extending the applicability for the credit through the next 10 years. Like the old law, the new changes to 45L introduced with the Inflation Reduction Act include basis adjustment and certification (in accordance with the requirements in IRS Notice 2008-35, Section 3); the credit is also still limited to residential property only.
Here are the key differentiators to note:
The old limit stopped at $2,000, but now developers are eligible to receive up to $5,000 for single-family or for multifamily units certified to the US Department of Energy (DOE)’s Zero Energy Ready Home Program.
Developers and their units must meet several criteria to be eligible for the newly updated 45L credit:
- As mentioned above, compliance with the DOE Zero Energy Ready Home Program qualifies developers for the maximum credit for their units:
- Specifically, the programs developers need to comply with include the DOE’s Energy Star Single-Family New Homes Program, as well as the Multifamily New Construction National and Regional Programs and/or the Zero Energy Ready Home Program certifications.
- By requiring compliance with these programs, the criteria and requirements developers need to adhere to have changed. Both builders and developers will need to allow ample time to start the certification process prior to development and construction, as these programs necessitate multiple inspections.
- Any size unit is eligible (there is no height requirement)
- Developers can use the 45L credit with the Section 179D deduction
- Developers must adhere to prevailing wage requirements:
- To recap, these requirements hold that for any qualified residence, the developer must make sure that any laborers and mechanics it employs or any contractors and subcontractors involved in the construction of the unit are paid wages at rates no less than the prevailing rates for construction, alteration or repair of a similar character in the locality in which the unit is located (based on what is most recently determined by the Secretary of Labor).
- Many experts believe that the federal government will release additional guidance around prevailing wages to provide further clarity to developers, so stay tuned.
Key questions to consider
Here are some answers to a few frequently asked questions (FAQs) developers may have about 45L credit eligibility:
1. Do nursing and assisted living homes qualify for the 45L credit?
If the unit’s use for these purposes is considered residential real estate, then assisted living and nursing homes would qualify for the credit under the new changes.
2. Would nonrevenue residential rental units also qualify for the 45L credit?
Yes. These units are considered “leased,” and therefore eligible for the credit.
3. Can the 45L credit be specially allocated to a partner?
Yes, although the developer should have discussions with their accountants, legal counsel and other partners before attempting this.
How Aprio can help
To take full advantage of the 45L credit, it’s important to work with a credentialed professional who not only understands the tax code but is also well-versed in the nuances of the affordable housing space. Aprio’s dedicated team of 100+ affordable housing CPAs serves clients across the nation, and our partners average 20+ years of industry-specific experience. We provide comprehensive solutions and proactive service to advance the business objectives of affordable housing developers from pre-construction to exit, while helping them make the most out of lucrative tax opportunities.
Schedule a consultation with our team today.