Expert Guide: Tax Optimization Strategies for Construction Business Savings

Smart tax optimization strategies can save construction businesses a lot of money in 2024. Companies can deduct 60% of qualifying purchases through bonus depreciation. We know how complex construction industry taxes can be and the money you could save.

Construction business tax deductions go way beyond equipment purchases. You can deduct purchases up to $1.22 million through Section 179 in 2024 if you have enough taxable income. The Qualified Business Income (QBI) deduction lets eligible construction company owners deduct up to 20% of their qualified business income. Your construction company could deduct $100,000 if it generates $500,000 in qualified business income.

Time plays a crucial role in construction tax planning. Bonus depreciation rates will keep dropping—from 80% in 2023 to 60% in 2024, then 40% in 2025, and 20% in 2026. These rates will completely vanish by 2027. This gradual reduction makes smart tax planning more crucial than ever. In this piece, we’ll show you proven tax optimization strategies that help construction companies maximize their deductions and credits before they shrink or disappear.

Maximize Equipment Deductions with Section 179 and Bonus Depreciation

Tax optimization for builders and contractors works best through construction equipment deductions. Your tax burden can drop significantly when you understand Section 179 and bonus depreciation, which also helps improve cash flow.

What qualifies for Section 179 in construction

Builders can deduct the complete purchase price of qualifying equipment in the year they buy and start using it. The equipment needs business use more than 50% of the time to qualify. The Section 179 deduction limit is $1,220,000 for 2024. The phase-out starts when total purchases go beyond $3,050,000.

Construction companies can qualify these assets:

• Machinery, tools, and heavy equipment
• Office furniture and computers
• Vehicles between 6,000-14,000 pounds
• Software and electronic equipment
• Building improvements (fire alarms, roofing, security systems)

Both new and used equipment qualify as long as they’re “new to your business”. The tax treatment stays similar whether you finance the equipment or pay cash—you can claim the full deduction even before paying off the equipment completely.

Bonus depreciation phase-out timeline

Section 179 needs business income to support the deduction. However, bonus depreciation lets you take deductions even if they create a net loss. Many construction businesses employ both strategies to maximize their benefits.

The bonus depreciation phase-out schedule looks like this:

• 2023: 80%
• 2024: 60%
• 2025: 40%
• 2026: 20%
• 2027: 0%

Here’s a practical example: A $100,000 equipment purchase in 2024 gives you a $60,000 bonus depreciation deduction right away. The remaining $40,000 gets depreciated over the asset’s useful life. Bonus depreciation keeps declining, so buying needed equipment sooner could give you better tax advantages.

When to use regular depreciation instead

Immediate write-offs sound great, but regular depreciation sometimes makes more financial sense. Regular depreciation might save you more money if your construction business moves into higher tax brackets in coming years.

Section 179 has its limits too—it can’t exceed your business income. Regular depreciation helps you manage taxable income across several years strategically.

Most companies get the best results from a mixed approach. They use Section 179 for some assets, bonus depreciation for others, and regular depreciation where it fits best. A construction tax specialist can help you find the right mix for your business.

Use the Qualified Business Income Deduction Effectively

The Qualified Business Income (QBI) deduction is one of the most important tax optimization strategies for construction business owners. The Tax Cuts and Jobs Act of 2017 created this provision that allows eligible pass-through entities to deduct up to 20% of their qualified business income.

How QBI works for construction pass-throughs

Construction businesses that operate as partnerships, S-corporations, or sole proprietorships can see high benefits from this deduction. To cite an instance, a construction business owner with $500,000 of taxable income could pay tax on as little as $400,000. This results in nearly $40,000 in tax savings. Most construction companies aren’t classified as “specified service trades or businesses” (SSTBs), which makes them fully eligible for the deduction.

The QBI deduction is now permanent, which creates long-term planning opportunities for construction business owners. QBI has business income minus items like reasonable compensation to S-corporation shareholders and guaranteed payments to partners.

W-2 wage limitations and planning tips

Income thresholds are vital to determining QBI limitations. The deduction starts phasing out at approximately $321,400 for married joint filers or $160,700 for single filers in 2023. The deduction becomes limited to the greater of these amounts above these thresholds:

• 50% of W-2 wages, or
• 25% of W-2 wages plus 2.5% of unadjusted basis of qualified property

Capital-intensive businesses like construction companies benefit especially from this second limitation. Businesses with separate partnerships for projects but using one entity for payroll can allocate payroll to end users. This increases their QBI deductions.

Impact of owner compensation on QBI

Your compensation strategies as an owner will affect your QBI deduction. Construction companies where the deduction is limited to 20% of QBI can boost their deduction by reducing owner wages and increasing distributions. One analysis shows that reducing wages by $100,000 and taking distributions instead increases the deduction by $20,000.

Construction management firms often see their deduction limited by W-2 wages. In such cases, increasing owner wages might improve the deduction. Remember to watch your subcontractor usage – their fees don’t qualify as W-2 wages for QBI calculation purposes, unlike employee wages.

Leverage Construction-Specific Tax Credits

Construction businesses can save substantial tax dollars through tax credits beyond standard depreciation and QBI deductions. These powerful tax optimization strategies for companies reduce your tax liability dollar-for-dollar.

R&D tax credit for innovative building methods

Construction companies receive R&D tax credits by developing or improving their products, processes, and techniques. Your company can qualify through new building techniques, sustainability solutions, and project-specific engineering innovations. The credit lets you offset up to 20% of qualifying research expenditures. This could mean $28,000 in tax savings on $280,000 of qualified expenses.

Section 179D for energy-efficient commercial buildings

The Inflation Reduction Act expanded the energy-efficient commercial buildings deduction. Qualifying projects in 2024 can receive deductions of $0.57-$1.13 per square foot. These deductions increase to $2.83-$5.65 per square foot when common wage requirements are met. The eligible improvements cover interior lighting, HVAC, hot water systems, and building envelope upgrades.

Section 45L for residential energy efficiency

Energy-efficient home builders can claim credits up to $5,000 per qualifying home. Credit amounts vary from $500-$5,000 between 2023-2032. The final amount depends on energy standards and common wage requirements.

Work Opportunity Tax Credit (WOTC)

WOTC rewards businesses that hire from targeted groups with employment barriers. Employees working at least 400 hours can qualify for credits worth 40% of first-year wages up to $6,000 ($2,400 maximum). Veterans might qualify for higher credits up to $9,600.

Fuel tax credits for off-road equipment

Your company can reclaim federal excise taxes paid on fuel used in off-highway business activities. The current credit equals $0.18 per gallon for gasoline and $0.24 per gallon for diesel. Bulldozers, excavators, and other off-road machinery qualify for these credits.

Optimize Timing and Accounting Methods

Tax optimization strategies work best when construction businesses make smart timing decisions. Construction companies can substantially reduce their tax burden by managing income recognition and expense timing effectively.

Delaying income and accelerating expenses

Cash-method businesses should postpone client invoicing until after January 1. They need to pay outstanding bills before year-end to move tax liabilities into future years. Construction companies have the option to change their accounting methods and deduct prepaid expenses this year.

Choosing between cash, accrual, and completed contract methods

Construction companies with average annual gross receipts under $29 million have several accounting choices:

• Cash method: This method lets you recognize income upon receipt and expenses at payment time, which gives you better timing control
• Accrual method: Income gets recorded at the time it’s earned while expenses are recorded when they occur
• Completed contract method: Your income stays deferred until project completion, which creates substantial tax savings

The 10% method helps small contractors defer income on jobs less than 10% complete. This method proves particularly useful for projects that start late in the year.

Writing off bad debt before year-end

Businesses using accrual accounting can deduct uncollectible accounts receivable before December 31. A $10,000 uncollectible debt writeoff reduces your taxable income by that amount. Your business must show reasonable collection attempts and document the exact time the debt became worthless.

Timing your tax projections for better planning

Tax projections should happen by early November based on financial data through September 30. This schedule gives you enough time to make informed tax decisions in November and December.

Conclusion

Tax savings opportunities abound for construction businesses as we guide them through 2024’s changing regulations. The right strategic timing and informed decisions ended up being key factors in tax optimization. The phase-out of bonus depreciation from 60% this year to zero by 2027 creates an urgent need to plan equipment purchases strategically.

Smart construction company owners should think over combining different approaches to maximize their benefits. You could use Section 179 for some assets and bonus depreciation for others to get the best tax advantages based on your finances. Your owner compensation structure can also affect your QBI deduction potential, which could save you tens of thousands in taxes.

Construction-specific tax credits are a great way to get dollar-for-dollar reductions that help your bottom line. R&D credits, energy-efficient building incentives, and strategic hiring can reduce your tax burden with proper documentation and claims.

Timing plays a crucial role in construction tax planning. Postponing income recognition, speeding up expenses, and picking the right accounting method make a big difference. Small contractors have more flexibility with options like the completed contract method to defer taxes until project completion.

Start your tax projections by early November using September’s financial data. This gives you enough time to put year-end strategies in place before December 31. Tax optimization might seem complex, but the savings are worth it for construction businesses of every size. A tax professional who knows construction’s unique challenges will help you find and implement the best strategies for your situation.