OBBBA qualified production property deduction in 2026

Before the One Big Beautiful Budget Act, building a new manufacturing plant meant spreading your deduction across 39 years. A $2 million facility gave you roughly $51,000 in year-one depreciation. The OBBBA qualified production property deduction changes that math entirely. Under new IRC Section 168(n), you can deduct 100% of qualifying facility costs in the year you place the building in service. For manufacturers, that is not a timing difference. That is a cash-flow transformation. This article walks through every rule, qualification test, and calculation you need to know for the manufacturing facility tax deduction 2026.

Expiry notice: The qualified production property deduction under OBBBA Sec. 70308 applies only to property placed in service before January 1, 2031. Projects not in service by that date do not qualify for the 100% deduction.

How the OBBBA qualified production property deduction works

OBBBA Section 70308 creates IRC Section 168(n), which permits a 100% first-year deduction for qualified production property (QPP). QPP is defined as nonresidential real property used as an integral part of a qualified production activity. Prior to this law, manufacturing buildings were subject to the standard 39-year straight-line depreciation schedule, the same schedule used for office buildings and retail stores. That treatment ignored the economic reality that production facilities are core operating assets, not passive investment properties.

To qualify for the deduction, the facility must be placed in service in the United States or its territories. Construction must begin after January 19, 2025, and before January 1, 2029. The facility must be placed in service before January 1, 2031. Congress scored the provision at $141.4 billion in foregone revenue over the budget window, which reflects the scale of manufacturing investment this deduction is designed to incentivize.

Depreciation and amortization rules under IRC Section 168 have always distinguished between different asset classes. The QPP deduction does not change the general framework; it carves out a specific category of real property and grants it the same 100% first-year treatment that equipment has received under bonus depreciation. The key difference: QPP covers the building itself, not just the machinery inside it.

Which businesses qualify for the QPP deduction under OBBBA

Eligibility centers on two questions: what activities take place in the building and who owns it.

A qualified production activity (QPA) is the manufacturing, production, or refining of a qualified product that results in substantial transformation. Substantial transformation means the inputs, specifically raw materials and constituent elements, are converted into a final, complete, distinct item that is fundamentally different from what you started with. A steel manufacturer turning raw coils into stamped automotive components qualifies. A retailer repackaging consumer goods does not.

IRS Notice 2026-16 QPP guidance defines the three activity types precisely. Manufacturing carries its standard broad meaning. Under the Notice, production is limited to agricultural or chemical production activities, not general fabrication or assembly. Refining means the standard definition of petroleum, mineral, or metal refining. A qualified product is any tangible personal property except food or beverages prepared and sold at the same retail establishment.

The Notice also clarifies what counts as essential QPA activity within a facility:

• Supervision and oversight of manufacturing occurring on the same property qualify
• Storage of raw materials used in the production process qualifies, provided it is on the same property or within an integrated facility
• Contract manufacturers qualify even without taking title to the product being produced
• If you process materials owned by someone else, you can still claim QPP for your facility

On ownership: the same entity must own and use the facility for QPA. Landlords who lease to manufacturers generally do not qualify. There are two exceptions. Intercompany leases within consolidated groups qualify. Commonly controlled pass-through entities with 50% or more common ownership also qualify under the attribution rules in Sections 267 and 707. So if two S Corporations share a majority owner and one leases its facility to the other for production use, the ownership test can still be met.

What disqualifies a facility from the QPP deduction

IRS Notice 2026-16 is explicit about what does not count as a qualified production activity. Understanding the exclusions is as important as understanding the inclusions.

Office and administrative functions are excluded. Sales, marketing, showrooms, and customer service areas do not qualify. Distribution centers, including any space used to store finished goods, are ineligible. Note the distinction: raw material storage qualifies; finished goods storage does not.

Research and development is excluded, creating a planning tension for manufacturers that co-locate R&D with production. Software development and data processing are excluded. Employee lodging and parking do not qualify. Packaging or grouping of finished goods for sale (think subscription boxes, gift baskets, or product bundle assembly) does not constitute a qualified production activity.

The "production" category is narrower than many manufacturers assume. Under the Notice, production means agricultural or chemical production. General fabrication, assembly, or light manufacturing falls under "manufacturing," not "production", but since manufacturing qualifies broadly, the practical impact is usually limited to how you describe the activity in your election disclosures.

Two other disqualifiers apply at the entity level:

1. If you have made a Section 163(j) real property trade or business election, you are ineligible for QPP. That election requires depreciation under the Alternative Depreciation System (ADS), and QPP specifically cannot be depreciated under ADS. Businesses with significant interest expense that choose the 163(j) real property election need to model the trade-off carefully before construction begins.
2. Related-party acquisitions of used property do not qualify for the used-property exception.

How to calculate your manufacturing facility tax deduction

The calculation starts with your allocable basis in the qualifying portion of the building.

If your facility is 100% used in a qualified production activity and 95% or more of the physical space satisfies the integral part requirement, you can elect to treat the entire building as qualifying under the de minimis rule. No allocation required. If your facility is a mix of production floor, office space, and other ineligible areas, which is the common case, you need to allocate the construction cost between the eligible and ineligible portions.

Permitted allocation methods under Notice 2026-16 include:

• Square-footage ratios
• Cost-segregation data
• Architectural or engineering plans
• Process diagrams
• Construction invoices broken out by area

Employee headcount and employee time are specifically prohibited as allocation methods. Dual-use infrastructure, such as HVAC systems, sprinkler systems, and electrical panels, must also be allocated between eligible and ineligible portions rather than treated as fully qualifying.

The integrated facility rule is useful when you have multiple buildings on the same or contiguous land. A raw-material storage building adjacent to two production buildings may be treated as a single unit of property. That single-unit treatment matters when you apply the 95% de minimis test; a standalone storage building might not pass the test on its own, but the integrated facility might.

Once you have the QPP-eligible basis, apply your effective tax rate. The full cost is deducted in year one on Form 4562 as Section 168(n) property. For an S Corporation passing through to a 32% bracket shareholder, $960,000 of QPP basis produces $307,200 in year-one tax savings. Under the old 39-year schedule, the same basis produced $24,615 in year-one depreciation, roughly $7,877 in tax savings at the same rate.

Real-world example for metal fabrication businesses

Marcus Rodriguez owns a metal fabrication S Corporation. In Q3 2025, he broke ground on a 10,000-square-foot production facility. Total construction cost, excluding land, is $1,200,000.

The facility is 80% production floor and 20% office and administrative space. Because the production space is 80% of the total, which is below the 95% threshold, the de minimis rule does not apply, and allocation is required. The QPP-eligible cost is $1,200,000 × 80% = $960,000. The excluded office portion is $240,000.

Under prior law, Marcus would have depreciated the $960,000 over 39 years: $960,000 ÷ 39 = approximately $24,615 in year-one depreciation. At his 32% effective rate, that is $7,877 in tax savings in year one.

Under the OBBBA QPP deduction, Marcus deducts the full $960,000 in 2025 (the year placed in service). At 32%, that is $307,200 in year-one tax savings, a difference of $299,323 compared to the old depreciation schedule.

Marcus also buys $400,000 in new fabrication machinery for the facility. Equipment qualifies for 100% bonus depreciation, which OBBBA permanently restored to 32%, producing $128,000 in additional savings. Combined, Marcus realizes approximately $435,200 in total year-one tax savings for the facility and equipment.

The office portion ($240,000) is still depreciated over 39 years, generating about $6,154 in deductions per year.

IRS Notice 2026-16 and what it means for manufacturers

IRS Notice 2026-16, published February 20, 2026, is the operative guidance on the QPP deduction. Taxpayers can rely on it until the IRS publishes proposed regulations. That matters because OBBBA Section 70308 leaves significant interpretive gaps that the Notice fills.

The Notice defines "substantial transformation," which is the core test for whether an activity is a QPA. It specifies which activities are "essential", including raw material storage and supervisory oversight, and which are expressly excluded. It establishes the de minimis threshold (95%), the integrated facility rule, and the mixed-use allocation methodology, including the prohibition on employee-based allocation.

The Notice also addresses the mechanics of the elections. The QPP election must be made on a timely-filed return, including any extensions. It requires detailed property-level disclosures, not just a checkbox. And it is irrevocable without IRS consent. The IRS will grant consent to revoke only in extraordinary circumstances: federally declared disasters and acts of God are the examples given. This is not the kind of election you undo if your situation changes.

For taxpayers who want to review the primary source, IRS Notice 2026-16 is available at the IRS website. IRS Publication 946 covers the broader depreciation framework. Form 4562 is where the deduction is reported.

How to claim the QPP deduction on your tax return

Step 1: Confirm eligibility. Verify that construction began after January 19, 2025, that the facility will be placed in service before January 1, 2031, and that the primary use is a qualified production activity as defined in Notice 2026-16. Confirm that you have not made a 163(j) real property election that would require ADS.

Step 2: Perform the space allocation. Use square footage or cost segregation data to separate the QPP-eligible portion from ineligible areas (office, sales, R&D, finished goods storage). Apply the integrated facility rule if you have multiple buildings on the same or contiguous land. Check whether the 95% de minimis threshold is met before allocating. If it is, you can skip the allocation step.

Step 3: Calculate QPP basis. Multiply the total construction cost (excluding land) by the QPP-eligible percentage. This is your deductible amount.

Step 4: Stack with equipment deductions. Identify all new equipment and machinery placed in service in the same year. Apply 100% bonus depreciation to qualifying equipment. Apply Section 179 (up to the $2.5 million limit under OBBBA) where appropriate. QPP covers the building; bonus depreciation and Section 179 cover the contents.

Step 5: Make the election on your return. Complete the required property-level disclosure on your timely filed return (including extensions). Report the deduction on Form 4562. Maintain supporting documentation such as architectural plans, construction invoices, and square footage calculations to support the allocation method you used.

Step 6: Set a calendar reminder for year 10. The 10-year continued use requirement is real. Document the QPP deduction date and the facility-use classification to monitor compliance during the recapture window.

QPP deduction compliance requirements and recapture risk

The QPP deduction comes with a 10-year continued use requirement. If the facility ceases to be used in a qualified production activity before the 10-year period expires, the prior depreciation is recaptured as ordinary income. This applies even if the business is sold or ownership is restructured. A buyer who purchases a business and converts the facility to a distribution center mid-window would trigger recapture on the prior deduction.

The 10-year clock starts when the building is first placed in service. If your long-term plans include expansion, refinancing, or restructuring, document those intentions early so tax planning reflects the recapture risk before you lock in the QPP election.

The statute treats the 10-year rule as an asset-level test. If use changes before year 10, recapture can be triggered in the year of the change, even when the business otherwise operates normally.

This recapture risk has structuring implications. Suppose there is any possibility that the facility's use will change within 10 years, such as a planned expansion into distribution, a potential sale, or a shift in business model, that needs to be modeled before making the QPP election. The election is irrevocable; the recapture is unavoidable if the use test fails.

The allocation documentation you prepare at placement in service also matters for audit defense. If you claimed 80% QPP eligibility based on square footage, you need to be able to produce floor plans, construction invoices, and a clear methodology to support that number. The IRS specifically prohibits employee-based allocations, so any documentation that relies on headcount or time tracking will not hold up.

For taxpayers with used property, the building qualifies if no one in a QPA used it between January 1, 2021, and May 12, 2025. You will need to document that prior use history. Related-party acquisitions are excluded from the used-property exception regardless of prior use history. Refer to IRS Publication 542 for detailed guidance on corporation-level recapture and basis adjustments under these rules.

Claim your QPP deduction before the 2030 window closes

The qualified production property deduction under OBBBA Section 70308 is the largest real estate write-off most manufacturing owners will ever see. Still, the property must be placed in service before January 1, 2031. Ownership structure, construction timing, and IRS Notice 2026-16 elections all affect whether your project qualifies. Instead guides you from eligibility check through Section 168(j) election, so you capture the full 100% deduction and file it correctly the first time.

Review Instead's pricing plans to start your eligibility assessment today.

Frequently asked questions

Q: What is the OBBBA qualified production property deduction?

A: The OBBBA qualified production property (QPP) deduction, created by Section 70308 under new IRC Section 168(n), allows businesses to deduct 100% of the cost of new US manufacturing and refining facilities in the year placed in service. IRS Notice 2026-16 (February 2026) provides interim guidance on how to claim it. Prior to OBBBA, these buildings were depreciated over 39 years.

Q: What qualifies as a qualified production activity under IRS Notice 2026-16?

A: A qualified production activity (QPA) is manufacturing, production (limited to agricultural or chemical activities), or refining of tangible personal property that results in a substantial transformation, meaning the inputs are converted into a final, complete, distinct item fundamentally different from what you started with. Storage of raw materials and supervisory oversight within the same facility also count as essential QPA activities. Packaging of finished goods does not qualify.

Q: Who qualifies for the QPP deduction, and can lessors claim it?

A: Generally, the same entity must own and operate the facility. Lessors do not qualify. However, IRS Notice 2026-16 provides exceptions for intercompany leases within consolidated groups and for commonly controlled pass-through entities with 50% or more common ownership. Contract manufacturers who do not take title to the product they produce may also qualify.

Q: What is the de minimis rule for the QPP deduction?

A: If 95% or more of a building's physical space is used as an integral part of a qualified production activity at the time of placement in service, the taxpayer can elect to treat the entire building as qualifying, with no space allocation required. Facilities that fall below 95% must allocate the basis between eligible and ineligible portions using a reasonable method (e.g., square footage or cost segregation data). Employee headcount and employee time are specifically prohibited as allocation methods.

Q: Is the QPP election irrevocable?

A: Yes. Under IRS Notice 2026-16, the QPP election must be made on a timely filed return and requires detailed property-level disclosures. Once made, the election cannot be revoked without IRS consent. The IRS grants consent only in extraordinary circumstances, such as federally declared disasters or acts of God. This decision is irreversible in ordinary circumstances.

Q: Can I claim QPP if I have made a Section 163(j) real property election?

A: No. QPP cannot be depreciated under the Alternative Depreciation System (ADS). Taxpayers who have made a Sec. 163(j) real property trade or business election, which requires ADS, are ineligible for the QPP deduction. This is an important planning consideration for real estate-heavy businesses or those with significant interest expense.