This article is the second in a series looking at what public and private construction firms pay in federal taxes and the techniques some of them use to minimize their tax burden. Click here for the first article.
A recent Construction Dive analysis revealed that public construction firms' effective federal tax rates are among the lowest of any sector. The 19 largest profitable firms in the industry paid a collective 16.8% on their U.S. profits in federal taxes in 2020, a fifth lower than the 21% statutory rate set by Congress.
Of those, 12 — or nearly two-thirds — paid less than the statutory rate.
These construction firms relied on several provisions to reduce their tax liability, all of which are completely legal. Here is a look at the top techniques they used:
1. Depreciation on assets
The intensive capital investments construction companies make are one of the main avenues that result in lower taxes for these firms, according to Andrew Kahn, a certified public accountant who specializes in construction finances at Bethlehem, Pennsylvania-based advisory firm Concannon Miller.
"The reason their effective rate is lower than 21% is due to the favorable depreciation write-off provisions," Kahn said. "So if you've got a construction company and you add $5 million in new assets — say by buying machinery, equipment and vehicles — those assets get written off."
While specific expenses aren't usually included in a public company's 10-K filing, a clue to using the depreciation writeoff can be found in the deferred income tax expense section of these annual reports. The section lists what a company thinks it may owe in the future, based on actions it has taken in the current year.
So, if a company writes off the expense of an earth mover for tax purposes in the current year, but then recovers some of that expense when it sells it down the road, the difference between the two numbers falls into the deferred tax category.
For example, construction and engineering firm Jacobs reported $53.5 million in federal deferred tax expenses for 2020, a figure that's just below the $55.3 million it reported for all of its tax obligations at the federal, state and foreign levels.
"The amount of federal income tax liability that the company was able to postpone this year is pretty much equal to its entire worldwide income tax provision," said Matthew Gardner, senior fellow at the Institute on Taxation and Economic Policy, a left-leaning think tank. "That says to me the main mechanism the company is using to get down to zero is likely depreciation related."
Jacobs received a $37 million rebate at the federal level in 2020, making its effective federal tax rate -17.4%, according to Construction Dive's analysis. The company didn't respond to requests for comment for this series.
While in theory, deferred tax expenses are just that — a tax companies will pay in the future — that's not always the case. A study by ITEP that analyzed corporations' tax payments over eight years found that deferrals in some cases can be extend into perpetuity.
"For every year when there's a deferral, there should be another year when deferrals from prior years are getting paid," Gardner said. "But at the same time, there are other cases where it really does seem to be perennial."
Together, the companies analyzed reported $197 million in deferred tax expenses for 2020. That included:
|Company||Deferred tax expenses|
|Tutor Perini||$39 million|
|Orion Group Holdings||$23.9 million|
|Sterling Construction Company||$19.4 million*|
|Great Lakes Dredge & Dock||$17.5 million|
|Infrastructure and Energy Alternatives||$10.1 million|
|Integrated Electrical Services||$9.3 million|
|Comfort Systems USA||$5.5 million|
|Tetra Tech||$2.2 million|
|Construction Partners||$2.2 million|
*Combined federal and state deferred tax expenses
Source: Company 10-K's.
2. Stock compensation
Of the 12 companies in Construction Dive's analysis that paid less than the statutory corporate rate in 2020, nearly all of them took advantage of writing off stock-based compensation to employees.
This usually involves companies granting executives stock options — the right to purchase shares at a fixed price in the future.
For example, a company could give an executive the right to purchase 1 million shares of stock at $10 each, for a period of 10 years. If the firm’s stock price is trading at $50 when the executive exercises that right, the company can write down the full value of those shares — $50 million — on its taxes.
While that's a valid and legal way for companies to decrease their federal tax liability, Gardner said it can also be an area where corporations get credit on their taxes without actually incurring any real expenses.
"There's a feature in the tax law that lets companies write off essentially the cost, with air quotes around it, associated with stock compensation dollar for dollar, exactly the same as if the company had written a check to those employees," Gardner said. "But there's obviously no direct cash expense associated with that."
The collective $48.5 million in stock-based compensation expenses reported in 2020 by the contractors analyzed here included:
|Company||Stock-based compensation expenses|
|Infrastructure and Energy Alternatives||$4.4 million|
|Tetra Tech||$4.3 million|
|Tutor Perini||$3.2 million|
|Sterling Construction Company||$1.8 million|
|Great Lakes Dredge & Dock||$1.2 million|
Source: Company 10-K's.
3. R&D Tax Credit
Construction companies also employ what's known as the research and development tax credit, which gives up to 12% of expenditures in this area back to businesses on their taxes.
According to Cole Marr, research and development director at California accounting firm Sensiba San Filippo, construction related activities that can qualify include design improvements for LEED or energy-efficient projects, development of unique construction methods and processes, experimentation with new building materials or developing or improving construction equipment.
Among the construction companies analyzed, Comfort Systems USA, a mechanical, electrical and plumbing contractor, leveraged the tax credit for $26.1 million, while Tutor Perini reported $3 million in R&D tax credits in its 10-K. Great Lakes Dredge & Dock, Tetra Tech and Infrastructure and Energy Alternatives also took small credits in this area.
The credit is designed to incentivize firms to invest in exploring new products and techniques, with the objective of spurring innovation and, hence, economic growth.
"In the government's view, they are attempting to improve and make more efficient their process to move business and the economy forward, which is good for everybody," said Kahn.
But the R&D tax credit is often criticized for its complexity, which effectively limits its advantages to large companies that can hire an army of accountants to wade through it.
"There are some things in the tax code that could be made more simple," said Garrett Watson, senior policy analyst at the Tax Foundation, a right-leaning think tank. "The R&D tax credit is an example. It's incredibly complicated, so a lot of smaller firms have a hard time taking it."
4. Loss carryforwards and carrybacks
Another tax break that can help lower what a firm owes the government is the net loss carryforward. That allows companies to use an excess past loss, when they owed little or nothing in taxes, in a future year when they make money and may owe more. Such losses can be carried forward indefinitely.
For example, Ron Ballschmiede, chief financial officer at The Woodlands, Texas-based Sterling Construction Co., explained in an email how the firm applied losses from as long ago as 2011 to offset profits now in order to get its effective federal tax rate down to zero in 2020, the second year in a row it did so.
"Due to the net operating loss carryforwards, the company expects no cash payments for federal income taxes for 2020 and 2019," the firm reported in its 10-K.
MasTec and Integrated Electrical Services (IES Holdings) also reported using the technique in 2020.
In addition, the Coronavirus Aid, Relief, and Economic Security (CARES) Act allows companies to carry back net operating losses from 2018, 2019 and 2020 for five years. That enables them to effectively amend past tax returns and receive rebates for those losses, if it's advantageous from a tax perspective for them to do so.
Because the corporate tax rate was at 35% prior to the passage of former President Donald Trump's Tax Cuts and Jobs Act at the end of 2017, carrying current losses back now to previous years can help firms get back more of the taxes they may have paid under the higher rate, according to Gardner.
Tutor Perini's 10-K offers a good example. "Under the CARES Act, enacted on March 27, 2020, the NOL [net operating loss] generated in 2019 may be carried back up to five years, whereas under previous rules, NOLs were only allowed to be carried forward," the firm said in its 10-K filing. "This allowed the company to realize the benefit of the tax rate differential by carrying back the NOL to tax years when the federal statutory tax rate was 35% rather than the current rate of 21%."
5. 179D Energy Efficiency Deduction
Another deduction particularly applicable to construction companies is the 179D incentive, which allows eligible builders to claim a tax deduction of up to $1.80 per foot for installing qualifying energy-efficient systems in buildings. First established in 2006, it was recently made a permanent program as part of the Consolidated Appropriations Act of 2021 signed into law on December 27, 2020.
Jacobs took a $7.3 million deduction under the rule, while Comfort Systems USA claimed $1.1 million.
All of the above methods are fully allowed within the tax system, tax experts interviewed for this series emphasized. "There's no indication that what these companies are doing is anything other than completely above board," Gardner said.
The tax code is set up for firms to seek out these kinds of deductions, to incentivize them to invest back in their businesses and employees and thus grow the economy at large.
"You hear all the time about all these very large companies that pay zero tax, even though they make money," said Kahn. "But obviously, in an effort to generate investment and progress, there are tax laws in place that allow you to more rapidly deduct things for tax purposes."