If your business is planning to build, expand or purchase a manufacturing facility, a new IRS tax incentive could significantly reduce your tax bill.
The IRS released interim guidance explaining how businesses can qualify for a 100% depreciation deduction for certain commercial real estate used in manufacturing and production. Instead of writing off the cost of qualifying property over many years, eligible businesses may be able to deduct the full cost in the year the property is placed in service.
For manufacturers making major capital investments, this can improve cash flow and free up capital for future growth.
What Is Qualified Production Property?
The new rules apply to what the IRS calls Qualified Production Property (QPP). In simple terms, it is commercial real estate used primarily for manufacturing or certain other production activities.
To qualify, the property must meet several timing and ownership requirements. Construction must begin after January 19, 2025, and before January 1, 2029. The property must also be placed in service between July 4, 2025, and December 31, 2030, and be located in the United States or one of its territories.
One piece of good news is that businesses with multiple buildings may have more flexibility than expected. The IRS allows qualifying buildings located on the same or adjoining parcels to be treated as one integrated manufacturing facility when determining eligibility.
Sal’s Advice: Don’t assume your project qualifies—or doesn’t qualify—without reviewing the details. Small differences in how a facility is designed or used could make a significant difference in the tax benefit.
What Activities Qualify?
The deduction is intended to encourage domestic production, so the rules focus on businesses that manufacture, refine, chemically produce or agriculturally produce products by substantially transforming raw materials into something new.
The IRS also recognizes that manufacturing involves more than just the production line. Activities such as receiving and storing raw materials, supervising production, managing inventory used in production, selecting materials, improving manufacturing processes and overseeing product design may also qualify when they are essential to the manufacturing operation.
However, simply packaging, labeling or assembling products generally does not qualify by itself.
Not Every Part of a Building Qualifies
Many manufacturing facilities include office space, employee areas and warehouses. The IRS makes it clear that not every square foot of a building is eligible for the deduction.
Areas used primarily for administrative offices, parking, lodging, research, software development, sales or storing finished products generally do not qualify.
If a facility serves multiple purposes, businesses must allocate costs between qualifying and non-qualifying areas using a reasonable method.
The guidance also includes a helpful exception. If at least 95% of a property’s space is used for qualifying production activities, the IRS allows the entire property to be treated as Qualified Production Property.
Sal’s Advice: This is where early planning pays off. Reviewing facility layouts before construction begins may help maximize the amount of property that qualifies for the deduction.
Previously Owned Property May Qualify
Many business owners assume this tax break only applies to new construction. That’s not always the case.
Previously owned property may qualify if you did not previously own or use it, it was not purchased from a related party, and it meets the IRS’s other eligibility requirements.
Because these ownership rules can be complicated, businesses considering acquisitions should review them carefully before closing a transaction.
Consider a Cost Segregation Study
A cost segregation study can significantly increase the value of 100% bonus depreciation by identifying building components that qualify for shorter depreciation lives. Items such as certain electrical, plumbing and HVAC systems, site improvements, and specialized interior components may qualify for immediate expensing, accelerating tax deductions and improving cash flow. The strategy can be especially valuable for newly constructed facilities, acquired properties and major renovations.
Sal’s Advice: If you’re planning a significant capital investment, discuss a cost segregation study with your CPA before the project is completed. Early planning can help maximize available tax savings and avoid missed opportunities.
Business Structure Can Affect the Tax Benefits
How your business is organized also matters.
For businesses operating through partnerships, LLCs taxed as partnerships, joint ventures or REIT subsidiaries, bonus depreciation is generally determined at the entity level—not by the individual owners. In addition, certain tax elections must be made by the entity itself.
Sal’s Advice: Before purchasing or constructing qualifying property, review your ownership structure with your CPA. Proper planning can help ensure the available tax benefits are captured and that required elections are made correctly.
Be Careful After You Claim the Deduction
Claiming the deduction is only the first step.
If the qualifying property ceases to be used for manufacturing within 10 years, a portion of the tax benefit may be subject to depreciation recapture.
Fortunately, temporary shutdowns for maintenance, equipment upgrades or facility improvements generally do not trigger recapture as long as the business intends to resume qualifying production.
Sal’s Advice: Keep documentation that shows how the property is being used. Good records can make it much easier to support your position if the IRS ever questions the deduction.
Now Is the Time to Plan
This new guidance creates an excellent opportunity for manufacturers investing in new or expanded production facilities, but taking full advantage of the deduction requires careful planning.
Construction timelines, facility design, ownership structure and future business plans can all affect whether property qualifies. In addition, businesses should consider how the deduction fits with other tax rules that may affect their overall tax position.
Sal’s Bottom Line: Don’t wait until your tax return is being prepared to think about bonus depreciation. The best opportunities often come from planning before construction starts or before a property is acquired. Working with your CPA early in the process can help you maximize available tax savings while avoiding costly surprises later.
Contact Sal Schibell, CPA, CFP®, MBA, MS Taxation – Tax Partner, at (732) 539-7328 or salschibell@LRSCPA.com to discuss your situation. One phone call can potentially save you thousands of dollars on your taxes.