IRS Issues Guidance on 100% Depreciation for Commercial Real Estate

The Internal Revenue Service (IRS) has released interim guidance in Notice 2026-16, outlining a major new tax incentive for the manufacturing sector. The guidance implements a 100% special depreciation allowance under IRC §168(n) for certain commercial real property classified as Qualified Production Property (QPP).

This provision—enacted as part of the One Big Beautiful Bill Act (OBBBA)—allows businesses to immediately deduct the full cost of qualifying production facilities in the year they are placed in service. For companies planning to expand U.S. manufacturing operations, this represents a significant tax planning opportunity.

What Is Qualified Production Property (QPP)?

QPP is the portion of nonresidential real property that meets all of the following requirements:

Depreciable under IRC §168
Used by the taxpayer as an integral part of a Qualified Production Activity (QPA)
Construction begins after January 19, 2025, and before January 1, 2029
Original use begins with the taxpayer (property may be new or used)
Placed in service in the United States or its territories
Placed in service after July 4, 2025, and before January 1, 2031

Withum Insight: The Notice provides a favorable aggregation rule: taxpayers may treat multiple properties as a single integrated facility when determining whether property is integral to a QPA, as long as the properties sit on the same piece of land or contiguous parcels.

Although original use must begin with the taxpayer, QPP may be used property. However, used property is disqualified if:

It was used in a QPA by any person between January 1, 2021 and May 12, 2025
The taxpayer used the property at any time before acquiring it
The property is acquired from a related party or controlled group member

Defining a Qualified Production Activity (QPA)

A QPA generally includes manufacturing activities that result in a substantial transformation of inputs. Manufacturing requires converting raw materials or components into a new tangible product through processes that materially change their form or function.

A change is “material” only if the inputs:

Are no longer readily identifiable, and
Cannot be returned to their original state

Activities such as packaging, labeling, repackaging, or minor assembly do not qualify on their own.

Withum Insight: Tax ownership of the product does not matter. A contract manufacturer may be treated as engaged in a QPA even if it does not own the finished product, provided the activity otherwise meets the QPA definition.

Essential Activities

A manufacturing activity that does not itself produce substantial transformation may still qualify if it is essential to completing the QPA. An activity is essential if:

It occurs within the same property or integrated facility where substantial transformation occurs, and
Without it, the transformation could not occur, would produce a lower quality product, or would yield a different quantity than intended

Examples of essential activities include:

Receiving and storing raw materials or other inputs
Oversight and direction of manufacturing operations
Material or vendor selection and control of raw materials or work in process
Cost reduction or efficiency initiatives
Developing or directing product design, specifications, trade secrets, technology, or other IP used in manufacturing

Withum Insight: A common question regarding IRC §168(n) was whether or not storage facilities could be included as property as QPP. The Notice clarifies that storage of raw material or other inputs for production does qualify as an essential activity; it clearly states a warehouse for finished goods is not an essential activity.

Ineligible Property and Mixed Use Facilities

The 100% special depreciation allowance cannot be claimed for portions of property used for:

Offices and administrative functions
Lodging or parking
Sales, research, or software development
Storage of finished products

For mixed use facilities, taxpayers must allocate basis between eligible and ineligible portions. The Notice allows any reasonable allocation method, such as square footage or cost segregation. However, employee headcount and employee time spent on QPAs are explicitly deemed unreasonable.

A 95% de minimis rule allows taxpayers to treat an entire property as QPP if 95% or more of its physical space is used for a QPA.

Recapture Rules

If, within 10 years, the property ceases to be used as an integral part of a QPA, Section 1245 ordinary income recapture applies.

Temporary downtime does not trigger recapture. Property that is placed in service but temporarily taken out of operation—such as for upgrades or facility-wide maintenance—continues to qualify as long as the taxpayer expects to resume QPA activities in the near future.

If only a portion of QPP undergoes a change in use, recapture applies only to that portion.

Next Steps for Your Business

This new incentive presents a significant tax saving opportunity for the manufacturing industry. Taxpayers planning to build, acquire, or expand production facilities should carefully evaluate how these new rules may impact upcoming projects. Advance planning is critical to ensure that all definitional, timing, and use requirements are satisfied in order to claim the deduction and avoid potential recapture. In addition, financial modeling is recommended to assess interactions with the inventory capitalization rules under IRC §263A, the interest expense limitation under IRC §163(j), and loss limitation rules applicable to S corporation shareholders and partners. Taxpayers should consult with their tax advisors to determine how this guidance applies to their specific capital expenditure plans.