What New IRS Guidance Means for Companies Investing in Qualified Production Property

The IRS’s Notice 2026-16 provides interim guidance regarding qualified production property (QPP), a new tax rule that allows certain manufacturing and production facilities to be fully depreciated in the year they are placed in service.

The guidance answers many questions that taxpayers have had about which types of property qualify, how a business makes the election, and what rules apply if the property is later sold or repurposed.

For companies building new facilities or expanding existing operations, the notice highlights both planning opportunities and additional compliance requirements.

What is the Qualified Production Property Incentive?

Enacted as part of the One Big Beautiful Bill Act (OBBBA), the QPP initiative allows taxpayers to elect a 100% special depreciation allowance for certain production-related buildings and improvements placed in service during the incentive window.

To qualify, the property must generally:

• Be nonresidential real property depreciated under MACRS
• Be used as an integral part of a qualified production activity (QPA)
• Be located in the United States or a U.S. territory
• Have construction beginning after January 19, 2025, and before January 1, 2029
• Be placed in service after July 4, 2025, and before January 1, 2031
• Not be subject to the alternative depreciation system (ADS)
• Be formally designated as QPP through an affirmative election

In most cases, the original use must commence with the taxpayer. However, used property can qualify for QPP if it was acquired within the eligible timeline, not previously used by the taxpayer or any other party in a QPA, and not acquired from a related party.

Taxpayers may deduct 100% of the property’s adjusted basis in the year they place the property in service if they meet all these requirements.

What Are Qualified Production Activities?

The QPP incentive is designed to encourage domestic manufacturing and production investment, so qualified production activities generally involve manufacturing, production or refining.

Notice 2026-16 provides definitions for these activities to determine whether an activity qualifies as a QPA. For the purposes of the QPP incentive:

• Manufacturingmeans materially changing the form or function of tangible personal property to create a new item held for sale or lease. Minor assembly, packaging or labeling does not qualify.
• Productionis limited to agricultural or chemical activities, including crop cultivation and chemical processing.
• Refininginvolves purifying or upgrading raw or intermediate materials into more useful or higher-value products.

Each of these activities must result in a “substantial transformation” of raw materials into a distinct finished product. For example, converting steel rods into bolts or wood pulp into paper would qualify.

Certain activities do not qualify, even if they occur in the same facility. Examples of ineligible use include office space, lodging, parking, sales, research, software development, engineering, storage of finished goods and other non-production functions.

If a facility includes both eligible and ineligible activities, taxpayers must allocate the building’s depreciable basis between those activities using a reasonable method, such as square footage or cost segregation.

However, the Notice provides a de minimis rule. If 95% or more of the building’s space is used in a QPA at the time it’s placed in service, the company can treat the entire building as QPP.

Safe Harbor for Projects Started Before January 19, 2025

Projects that began before the statutory start date may still qualify under a 10% safe harbor rule if certain conditions are met.

Under the safe harbor exception, the IRS considers construction to have begun if the taxpayer incurred at least 10% of the total project cost before the relevant deadline. However, some early project expenditures don’t count toward the 10%, such as planning, design feasibility studies and architectural work.

Notice 2026-16 Provides a Lessor-Lessee Exception

QPP treatment is generally not allowed for property leased to a third-party because the lessor is not conducting the production activity. However, Notice 2026-16 provides an exception.

Certain related-party leasing arrangements may still qualify when the property is leased within a consolidated corporate group or a commonly controlled pass-through entity meeting specific ownership thresholds. Common control generally requires 50% or more ownership.

In those cases, the group may be treated as a single taxpayer, allowing the property to qualify based on the lessee’s production activity.

How to Elect 100% Bonus Depreciation for QPP

Taxpayers must make the election on a timely filed original return for the year the property is placed in service. The election must identify each property (or portion thereof) designated as QPP and specify the amount of basis subject to the 100% depreciation deduction.

The election is irrevocable, meaning taxpayers cannot later reverse the decision without IRS consent.

Learn More and Connect with an Advisor

The rules pertaining to QPP are highly technical and require careful evaluation of whether the project meets timeline requirements and how much of the facility qualifies as production space.

If your organization is considering building or expanding a production facility, contact a Warren Averett advisor to discuss how these rules may apply to your investment plans.