Certain landscaping projects could help you lower your tax burden substantially.
The Domestic Production Activities Deduction (IRS Form 8903) allows certain businesses to deduct 9% of net income derived from qualified “production” activities, including the construction of real property performed in the United States.
“The Domestic Production Activities Deduction is very specific,” says Michael Napolitano, a CPA with the firm Citrin Cooperman & Company. Napolitano works with several landscape contractors ranging from $500,000 to $18 million in annual revenue, many of whom have been able to benefit from this deduction.
Landscape installations that are part of either new construction projects or substantial property renovations could be eligible. The key wording, Napolitano points out, is “structural components.”
“If there’s a development taking place, whether it’s a commercial building or a home, a landscaper’s installation work qualifies for the deduction because it’s part of a much larger project: the ‘production’ of a new structure,” Napolitano explains. While this would include the installation of an irrigation system, ongoing maintenance and lawn care services would not qualify.
Nor would most existing property renovations. However, some could be eligible. Napolitano explains, “For the customer who asks a contractor to come in and do some landscaping to his front yard, the Domestic Production Activities Deduction would not apply. But for the customer who just bought a house, and wants to substantially renovate the entire house, including the landscaping, the project could qualify.”
Here’s one more thing to consider: The renovation has to “add life to” and “materially increase the value of” the property. What types of landscaping work would fall into this category? That’s a good question, because Napolitano says getting examples of capital improvements from the IRS can be difficult. Furthermore, rules and tax codes often differ from state to state.
As a starting point, you can look to what the state of New Jersey classifies as capital improvements—and ask your accountant if they apply to your state’s tax code. Some of the examples New Jersey provides are:
- Grass plugging on new lawns
- Planting trees, shrubs, hedges, plants, etc.
- Clearing and filling land associated with the above; also includes tree stump removal
- Installation of a new fence
- Installation of low-voltage lights
- Installation of a pond
- Installation of an underground sprinkler system
- Hardscaping, such as a paver patio, deck, walkway, driveway, swimming pool or retaining wall
WHAT YOU SHOULD DO
As you can see, like most things involving the IRS, determining eligibility for this deduction can get a bit tricky. So, first and foremost, get with your accountant to talk about the installation work you’ve performed this year; you still have a couple of months.
But just as importantly, you want to get a feel for the types of projects that qualify so that, as you’re performing work throughout this year, you can start to flag certain projects, making your life easier when the next tax season rolls around.
HOW IT WORKS
Let’s say a contractor is doing a $50,000 landscaping job on a new commercial property that’s being built. What would his deduction be?
- First of all, we’re going to assume his direct costs on the job are 55%, or $27,500
- That means his gross profit on the job is $22,500
- After consulting his accountant, he determines that $10,000 of his annual overhead should be allocated to this job – so net income on the job is $12,500
- $12,500 x 9% = deduction is $1,125
CPA Michael Napolitano says there are a couple more things to consider, though, before the deduction is legit:
- The Domestic Production Activities Deduction is only available to businesses with employees whose W-2 wages are reported to Social Security
- If the total of your Domestic Production Activities Deductions exceed 50% of the W-2 wages or your personal taxable income, your deduction is the latter (the smaller of the two).