OBBBA §70307 added a brand-new IRC §168(n) creating a 100% first-year depreciation deduction for "qualified production property" (QPP) - nonresidential real property used as an integral part of a qualified production activity (QPA). Previously, factories and production facilities depreciated over 39 years; now eligible new construction can be fully expensed in the year placed in service, for both regular tax AND alternative minimum tax purposes. The deduction is targeted at three activity categories: manufacturing, production (limited to agricultural and chemical), and refining of tangible personal property that results in a "substantial transformation" of the product. Construction must begin after January 19, 2025 and before January 1, 2029; the property must be placed in service after July 4, 2025 and before January 1, 2031. QPP is treated as §1245 property - ordinary income recapture applies on sale up to depreciation taken. An affirmative election is required on a timely-filed return and is effectively irrevocable. A 10-year recapture period applies if the property ceases QPA use. IRS Notice 2026-16 (issued February 20, 2026) provides interim guidance taxpayers can rely on until proposed regulations.
Construction begin date window: AFTER January 19, 2025 AND BEFORE January 1, 2029.
Placed-in-service window: AFTER July 4, 2025 (OBBBA enactment) AND BEFORE January 1, 2031.
Why two windows: Construction must begin during the 4-year window (1/20/2025 - 12/31/2028); but placed-in-service has a separate 5.5-year window allowing longer projects to complete and qualify even when construction extends. A project beginning Jan 2026 and completing Dec 2030 qualifies.
"Begin construction" definition: Pending §168(n)-specific regulations, taxpayers may rely on existing §168(k) bonus depreciation "begin construction" rules under Reg §1.168(k)-2(b)(5)(iv)(B) - physical work of significant nature OR the safe harbor of incurring (accrual) or paying (cash) more than 10% of the total cost of the property (excluding land and preliminary activities).
Election: Affirmative; made on timely-filed federal income tax return for the year property placed in service; effectively irrevocable once made.
| Requirement | Detail |
|---|---|
| (1) Property type | Nonresidential real property depreciable under MACRS (non-ADS); must be located in the United States or US territory |
| (2) Original use begins with taxpayer | Generally new construction; existing property qualifies only if NOT used in QPA during 1/1/2021 through 5/12/2025 |
| (3) Used by taxpayer as integral part of QPA | The property must be used by the taxpayer for the qualified production activity - lessor cannot benefit (with consolidated group exception) |
| (4) Construction and placed-in-service windows met | Construction begins after 1/19/2025 and before 1/1/2029; placed in service after 7/4/2025 and before 1/1/2031 |
| Activity Category | Eligible | Notes |
|---|---|---|
| Manufacturing | YES - broadly defined | Material change in form or function of property/components to create a new item held for rent, lease, or sale. Cannot return to original states. |
| Production - Agricultural | YES | Limited to agricultural production specifically (not general production) |
| Production - Chemical | YES | Limited to chemical production specifically |
| Production - General (other) | NO | OBBBA expressly limits production to agricultural and chemical categories only |
| Refining | YES | Refining of tangible personal property |
| Software development | NO | Excluded |
| Research activities | NO | Excluded |
| Engineering activities | NO | Excluded |
Per Notice 2026-16, an activity is a QPA only if it results in a "substantial transformation" of the property comprising the product. The OBBBA directs IRS to follow guidance consistent with §954(d) (Subpart F manufacturing). Manufacturing means "to materially change the form or function of property, including its parts and components, to create a new item of property that is held for rent, lease, or sale."
| Constitutes Substantial Transformation | Does NOT Constitute |
|---|---|
| Chemical change altering molecular structure | Packaging or repackaging alone |
| Mechanical processes resulting in new product (e.g., raw materials → finished goods) | Labeling alone |
| Assembly creating new functional unit (full vehicle from parts) | Minor assembly alone |
| Refining (extracting/purifying) | Inspection or testing alone |
| Material processing creating distinguishable product | Storage of finished products |
| Qualified Product | Excluded Product |
|---|---|
| Tangible personal property generally | Food or beverage prepared in the same building as a retail establishment where sold (restaurants, coffee shops, bakeries, caterers, similar) |
| Manufactured goods (cars, appliances, electronics, apparel, furniture, etc.) | Real property (buildings, land) |
| Refined products (gasoline, petrochemicals, refined metals) | Intangible property (software, patents) |
| Agricultural products (crops, livestock products processed) | Services |
| Chemicals and chemical products | Food/beverage retailers selling on-site |
Even if a facility qualifies overall, certain space within is excluded from QPP designation:
| Excluded Property Use |
|---|
| Office space (administrative offices) |
| Administrative services area |
| Lodging facilities |
| Parking structures or surfaces |
| Sales activities (showroom, retail space) |
| Research activities (R&D lab not directly producing) |
| Software development facilities |
| Engineering activities |
Per Notice 2026-16, if at least 95% of a property's physical space meets the integral-part requirement, the taxpayer may elect to treat 100% of the property as qualifying. This avoids the administrative burden of carving out small amounts of incidental office or administrative space.
| Threshold | Effect |
|---|---|
| 95% or more of physical space is integral to QPA | Elect to treat entire property as QPP - full 100% deduction on entire unadjusted basis |
| Less than 95% integral | Must allocate basis between qualifying and non-qualifying portions using reasonable methods |
Multiple buildings can be combined into a single integrated facility for purposes of the integral-part requirement. Notice 2026-16 provides:
| Integrated Facility Requirement | Detail |
|---|---|
| Multiple properties operating together | Buildings that function as a unit (e.g., raw materials storage + main production + finished goods staging) |
| Physically located on contiguous land | All buildings on adjacent parcels treated as one facility |
| Raw materials storage as essential activity | If raw materials storage is for materials consumed during the QPA at the same property, the storage building qualifies as part of the integrated facility |
| Finished product storage | Generally NOT essential to QPA - storage of finished goods does not qualify |
| Buildings with only ineligible property | Cannot be part of integrated facility |
Facts (Notice 2026-16, Example 5): Company A placed Factory B and Factory C in service in 2023 on a single piece of land and uses them for manufacturing that is a qualified production activity (QPA). In 2026, Company A begins construction of Building A on contiguous land to store raw materials and other manufacturing inputs used or consumed in Factory B and Factory C. Construction begins in May 2026, Building A is placed in service in April 2027, and its unadjusted depreciable basis is $20,000,000.
Analysis: The three buildings are each a separate unit of property, but because they operate as an integrated facility on contiguous land, Company A may treat them as a single unit of property for the integral part requirement (section 4.03(2)). Building A is therefore used as an integral part of a QPA, and its entire $20,000,000 unadjusted depreciable basis may be designated as QPP (original use, construction beginning after January 19, 2025 and before January 1, 2029, placed in service before January 1, 2031, not ADS property). Factory B and Factory C were placed in service in 2023 and are not eligible.
Without the integrated facility rule: Building A's raw materials storage would not satisfy the integral part requirement on its own, because storage is treated as part of a QPA only within the same property or an integrated facility.
Section 168(n)(2)(A) excludes a lessor from §168(n) treatment if the lessee uses the property in QPA. The lessor cannot regard a lessee's QPA as its own use.
| Leasing Scenario | §168(n) Treatment |
|---|---|
| Lessor owns factory; leases to unrelated manufacturer who uses it in QPA | LESSOR does NOT qualify for §168(n) (lessee's QPA does not count as lessor's use) |
| Lessee in same consolidated group as lessor (intercompany lease) | Not treated as a lessor: the consolidated group is treated as a single taxpayer and the integral part requirement is tested by the lessee member's activities in the leased property (Notice 2026-16 section 4.02(3)(b)). A QPP change in use occurs if the lessee member ceases its QPA or either member leaves the group (section 8.01(1)(b)) |
| Lessor uses property in own QPA | QUALIFIES |
| Sale-leaseback structures | Generally lessor cannot get §168(n) post-sale-leaseback if lessee uses for QPA |
Two separate rules apply. First, §168(n)(5) imposes recapture if, during the 10-year period beginning on the date the QPP is placed in service, the property ceases to be used as an integral part of a qualified production activity and is used by the taxpayer in a productive use not described in §168(n)(2)(A)(ii). Second, because QPP is §1245 property (§1245(a)(3)(G)), an actual sale or other disposition at any time is subject to the ordinary §1245 recapture rules, limited to the lesser of depreciation allowed or gain realized (§1245(a)(1)):
| Disposition Event | Recapture |
|---|---|
| Sale of QPP within 10 years | Ordinary §1245 recapture under §1245(a)(1): ordinary income equals the lesser of depreciation allowed (including the §168(n) deduction) or the gain realized; any remaining gain is treated under the general rules for sales of business property (for example §1231). This is not a §168(n)(5) event; the same rule applies after the 10-year period |
| Conversion to non-QPA use within 10 years (e.g., factory converted to warehouse for finished products) | §168(n)(5)(A): the property is treated as disposed of when first used in the non-qualifying productive use, and for §1245(a)(1) the amount in subparagraph (B) is treated as not less than the amount in subparagraph (A), so ordinary income is not limited by fair market value; basis and depreciation are then adjusted under §168(n)(5)(B) |
| Discontinuation of business within 10 years | No recapture unless the property also ceases to satisfy the integral part requirement and is used in another productive use (QPP change in use, §168(n)(5); Notice 2026-16 section 8.01(1)(a)); temporarily idle property is not a change in use (section 8.01(1)(d)) |
| Lease to another party for QPA after taxpayer ceased own QPA | Likely recapture (taxpayer no longer using; lessor exclusion applies) |
| Disposition after 10-year period | Ordinary §1245 recapture still applies on a sale (§1245(a)(3)(G) treats QPP as §1245 property) but the §168(n)(5) change-in-use recapture no longer applies |
Under §1245(a)(3)(G), QPP is §1245 property, not just during the 10-year period. This has several important consequences:
| §1245 Consequence | Detail |
|---|---|
| Ordinary income recapture on sale | Gain on sale is ordinary income up to the lesser of depreciation allowed or gain realized (§1245(a)(1)); gain above that amount is not recaptured |
| Like-kind exchange | QPP is a building and therefore real property for §1031 purposes (Reg §1.1031(a)-3); Notice 2026-16 section 6.03 provides rules for replacement QPP acquired in a like-kind exchange or involuntary conversion, applying rules consistent with Reg §1.168(k)-2(g)(5) |
| Installment sale impact | §453(i) - recapture income reported in year of sale; only post-recapture gain may be reported on installment basis |
| Estate basis step-up | Heirs receive stepped-up basis under §1014; future depreciation begins fresh; §1245 recapture characterization wiped at death |
| Election Step | Detail |
|---|---|
| Form | Election statement attached to timely-filed federal income tax return for the year property placed in service |
| Content | Identify the QPP, designate the portion treated as QPP, certify eligibility |
| Allocation methods (mixed-use property) | Any reasonable method - square footage allocation, cost allocation, function-based allocation. Multiple methods may be used for different components. |
| Coordination with §168(k) bonus | Under §168(n)(4)(A), QPP is treated as a separate class of property and the taxpayer is treated as having made the §168(k)(7) election (out of §168(k) bonus depreciation) for that class, so no separate election is needed to avoid duplication |
| Revocability | Effectively irrevocable absent IRS consent |
| Late election | Future Treasury guidance expected; pending guidance, late election relief uncertain |
| Provision | Eligible Property | 2026 Treatment |
|---|---|---|
| §168(n) QPP | Nonresidential real property used in QPA - factories, refineries, agricultural production | 100% deduction; election required; 10-year recapture |
| §168(k) Bonus Depreciation | Property with a recovery period of 20 years or less (most personal property), computer software, qualified improvement property | 100% permanent under OBBBA for property acquired AND placed in service after 1/19/2025; default election (auto-applies) |
| §179 Expensing | Tangible personal property, off-the-shelf software, QIP, roofs/HVAC/security on nonresidential real property | 2026: $2,560,000 cap / $4,090,000 phaseout per OBBBA-doubled baseline; per-asset election |
| Standard MACRS 39-year | Nonresidential real property NOT QPP and not §168(k)-eligible improvements | Default - 39-year recovery |
OBBBA permanently restored the EBITDA-based "adjusted taxable income" (ATI) calculation for the §163(j) business interest limitation. §168(n) deductions count as DEPRECIATION for ATI purposes and are added back when computing EBITDA-based ATI.
| §163(j) ATI Component | Treatment |
|---|---|
| Starting point | Taxable income before §163(j) limit |
| Add back §168(n) deduction | YES - treated as depreciation |
| Add back §168(k) bonus depreciation | YES |
| Add back §179 amounts | YES (treated as amortization) |
| Result | EBITDA ATI - higher than EBIT, allowing more interest deduction |
The §168(n) deduction can generate a net operating loss in the year of placed-in-service. Under post-TCJA NOL rules:
| NOL Aspect | Treatment |
|---|---|
| Carryforward period | Indefinite (no expiration) under post-TCJA §172(b) |
| Annual deduction limit | 80% of taxable income (computed without the NOL deduction) under §172(a)(2) |
| Carryback | Generally not permitted under post-TCJA rules |
| Strategic effect | Large §168(n) deductions on $50M+ facilities can produce NOL that shields taxable income for many years |
States vary on §168(n) conformity. Many states that decouple from federal bonus depreciation under §168(k) may also decouple from §168(n). Some practitioners expect majority state conformity to §168(n) given decoupling history has typically targeted §168(k) specifically. Verify state-by-state for each Client.
| State Posture | Conformity Approach (verify annually) |
|---|---|
| Full federal conformity | Most rolling-conformity states; some specific-conformity states |
| Decoupled from §168(k) bonus depreciation | States like California, Illinois, New York; verify whether §168(n) is separately decoupled |
| Florida, North Carolina | State-specific bonus depreciation method allowing partial acceleration |
| §179 alternative | If state decouples from §168(n), §179 may provide partial state benefit (state caps vary) |
For a $100M factory, a comprehensive cost segregation study identifies:
| Component | Typical % of Cost | Depreciation Treatment |
|---|---|---|
| §1245 personal property (equipment, machinery) | 20-30% (varies) | §168(k) 100% bonus depreciation |
| §1245 land improvements (utilities, paving) | 5-10% | §168(k) 100% bonus (15-year property) |
| QIP - interior improvements to nonresidential real property | 10-20% | §168(k) 100% bonus and/or §179 |
| §168(n) QPP - structural elements in production-integral space | 40-60% (varies) | §168(n) 100% deduction |
| Office/admin space (excluded from §168(n)) | 5-10% | 39-year MACRS |
| Land (not depreciable) | 5-15% | None |
Restaurants, coffee shops, bakeries, and similar establishments that prepare food AND sell on-site are EXCLUDED from QPP. The food/beverage carve-out specifically targets these businesses. A standalone food processing plant supplying multiple restaurants may qualify; an in-house bakery within a retail establishment does not.
Corporate Clients with separate real estate ownership entities should first confirm whether the lessor fits an exception in Notice 2026-16 section 4.02(3): a member of the same consolidated group as the lessee, or a partnership, S corporation, or individual lessor leasing to a commonly controlled person (50 percent or more common ownership). A lessor outside those exceptions, such as a C corporation outside the consolidated group or an unrelated lessor, cannot claim §168(n) on property used by its lessee. Restructuring in that case may trigger other tax considerations including §351 contribution rules and state tax implications.
The original-use requirement generally requires new construction. The limited existing-property exception requires NO QPA use during 1/1/2021 - 5/12/2025. An acquired existing facility that was used for QPA during that window does NOT qualify, even if the new buyer would use it for QPA going forward. Pre-acquisition due diligence must confirm historical use.
Unlike §168(k) bonus depreciation which applies by default unless elected out, §168(n) requires an AFFIRMATIVE election. Missing the election on the original return forfeits the benefit. Practitioners must specifically address §168(n) election in return preparation for any taxpayer with new factory construction.
QPP is §1245 property (§1245(a)(3)(G)). A factory expensed at $100M under §168(n) and later sold for $150M generates $100M of ordinary income (recapture: lesser of $100M depreciation allowed or $150M gain) plus $50M of remaining gain taxed under the general rules for business property. If the sale price were only $60M, the gain is $60M and the ordinary income is limited to $60M. This is fundamentally different from traditional 39-year MACRS treatment where most gain on real property is capital gain (with only §1250 recapture for accelerated depreciation in excess of straight-line).
A building is real property under Reg §1.1031(a)-3, and Notice 2026-16 section 6.03 provides rules for replacement QPP acquired in a like-kind exchange or involuntary conversion. Owners should model how the §168(n) allowance interacts with an exchange rather than assuming it is unavailable.
The 10-year recapture window is meaningful. Recapture applies only on a QPP change in use within 10 years of the placed-in-service date (the property stops being used as an integral part of a QPA and is put to another productive use); temporarily idle property and a switch from one QPA to another do not trigger it (Notice 2026-16 section 8.01(1)). Long-term business stability assessment should accompany §168(n) election decisions.
The 95% de minimis rule is generous, but only at the 95% threshold. A facility with 90% qualifying space and 10% office/admin must allocate basis with reasonable methods - cannot use the 95% bright line. Square footage allocation, construction cost allocation, or cost segregation-based allocation are acceptable. Documentation in audit defense is critical.
Federal §168(n) full expensing may produce minimal state benefit in decoupled states. The state-federal difference creates a permanent deferred tax adjustment requiring tracking of separate state and federal basis for the entire 39-year traditional MACRS period.
Primary authority: IRC §168(n) (new - Special depreciation allowance for qualified production property), added by One Big Beautiful Bill Act §70307, P.L. 119-21, signed July 4, 2025. §168(n)(1)(A) (100% special depreciation allowance for the adjusted basis of QPP). §168(n)(1)(B) (adjusted basis reduced before computing otherwise-allowable depreciation). §168(n)(2)(A) (lessor exclusion - lessee's QPA does not constitute lessor's use). §168(n)(2)(A)(vii) (placed-in-service window). §168(n)(2)(B)(ii) (written binding contract rule for acquisition date). §168(n)(2)(D) (qualified production activity definition). §168(n)(2)(F) (qualified product definition; food/beverage same-building exclusion). §168(n)(5) (10-year recapture period; §1245 treatment). §168(n)(6) (election requirement). §168(k) (100% bonus depreciation permanently restored under OBBBA for property acquired AND placed in service after January 19, 2025; §168(k)(7) election out). §168(e)(6) (qualified improvement property). §168(g) (alternative depreciation system - §168(n) excludes ADS property). §163(j) (business interest limitation - EBITDA ATI permanent under OBBBA; §168(n) treated as depreciation for ATI). §172 (NOL - 80% annual limitation; indefinite carryforward under post-TCJA rules). §179 (alternative for state non-conformity; OBBBA-doubled to $2.5M baseline). §1245 (ordinary income recapture - QPP permanently §1245 property). §1031 (like-kind exchange - NOT available for §1245 property). §453(i) (installment sale recapture). §954(d) (Subpart F manufacturing - referenced for "substantial transformation" guidance). §1014 (estate basis step-up). Treasury Regulation §1.168(k)-2(b)(5) (acquisition date / binding contract rules for §168(k); referenced for §168(n) pending §168(n)-specific regulations). Reg §1.954-3 (Subpart F substantial transformation examples). IRS Notice 2026-16 (February 20, 2026 - interim guidance on §168(n) including QPA definition, integrated facility rule, 95% de minimis rule, election mechanics, basis allocation methods; taxpayers may rely on Notice until proposed regulations issued). Form 4562 (Depreciation and Amortization).