Section 48 investment tax credit (updated guidance)

Updated guidance from Treasury for biogas facilities and 5 takeaways from Section 48 guidance

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Update: On Friday February 16, the IRS published a correction to its previous notice of proposed rulemaking related to Section 48 qualifying energy property. The IRS had previously determined that “gas upgrading equipment” did not qualify as a part of “energy property” for a biogas facility for the purpose of calculating its eligible cost basis. This aspect of the proposed guidance posed challenges for certain biogas facilities, particularly landfill gas facilities, for whom upgrading equipment can represent a sizable portion of the project’s cost basis — from 10-15% to as much as 90%. IRS now proposes a correction, which would include gas upgrading equipment in the definition of energy property where it “is an integral part” of a facility, and “is necessary to concentrate the gas from qualified biogas property into the appropriate mixture for injection into a pipeline.” The proposed Section 48 guidance, including the correction, is not final. We expect the IRS to finalize this guidance by mid-2024.

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On Friday, November 17, the Treasury Department released draft guidance regarding the implementation of Section 48 Investment Tax Credits (ITCs). While ITCs have been around for many years for certain clean energy technologies, the Inflation Reduction Act (IRA) significantly expanded the kinds of clean energy projects able to take advantage of these tax credits. 

Treasury’s guidance is 127 pages, and will take some days for the market to process fully, and initial analyses of the proposal by market leaders (such as Norton Rose Fulbright and Holland & Knight) offer some perspectives on key areas of uncertainty. 

Overall, the guidance takes a meaningful step forward in providing market clarity for key industries ahead of year end. Comments on the notice of proposed rulemaking are due in January 2024. 

Below, we highlight our five key takeaways from the release, affecting the offshore wind and biogas industries, stand-alone energy storage, and clarifying recapture for the prevailing wage and apprenticeship bonus. 

1. The proposed guidance indicates that subsea cables would be included in the overall definition of a qualifying energy project for offshore wind projects. Subsea cables can now be included in a project’s cost basis. If those cables are shared between projects (which have different ownership), the IRS provides guidance regarding how the different owners may claim tax credits based upon how they’ve divided up the construction costs of the shared infrastructure. Developers had previously sought clarification from the IRS on this question and the treatment is favorable. IRS provided similar guidance regarding onshore wind facilities, that “transfer equipment” that does not include transmission lines, may be considered wind energy property eligible for inclusion in the project’s cost basis. 

2. The guidance takes a technology neutral stance on qualifying technologies for stand-alone energy storage projects. The IRS defines energy storage technology to mean property that receives, stores, and delivers energy for conversion to electricity (or, in the case of hydrogen, that stores energy), and has a nameplate capacity of not less than 5 kWh. Thermal energy storage property, for instance molten salt, is also energy storage technology. In general, the market expected this broad definition for qualifying energy storage projects, and the language should support projects leveraging a full range of battery, thermal, and hydrogen-based storage technologies. 

3. The IRS clarifies the definition of “placed in service,” or the point in time when an energy project is deemed to generate the tax credit. For some energy storage projects, there has been a degree of uncertainty regarding whether placed in service occurs when a facility is made available for use, or when it is actually in operation use or operating at rated capacity. Stand alone energy storage assets in particular may be available for use but not called upon by the grid operator for a period of time. The proposed guidance makes it clear that a project meets the placed in service milestone when the “energy property is placed in a condition or state of readiness and availability.”

4. NOTE: Guidance for biogas projects has changed effective February 16. See update at the top of this page. The proposed regulations would not permit biogas projects to earn ITCs on upgrading equipment that is not functionally interdependent. The IRS defines a biogas project as a project which converts biomass into saleable (i.e. uncombusted) gas of at least 52% methane concentration. Before this guidance was issued, commenters requested that the IRS permit biogas projects to include costs of upgrading equipment needed to inject biogas into a pipeline or convert biogas to compressed or liquefied gas as part of the qualified project expenditures. IRS proposes that the functionally interdependent components of a biogas project include (but are not limited to) the waste feedstock collection system, landfill gas collection system, mixing or pumping equipment, and anaerobic digester. This is anticipated to be an area of active effort by the industry during the comment period. 

5. The proposed regulations also clarify the rules on recapture for projects that qualified for the prevailing wage and apprenticeship (PWA) bonus adder. The IRS indicates the projects which fail to satisfy the prevailing wage requirements with respect to alterations or repairs that occur during the five-year period after the energy project is placed in service may be subject to recapture for the PWA portion of the tax credit, which is annually reduced by 20% following the year (to the date) that the project is placed in service. For credit buyers and sellers alike, these ongoing records maintenance and documentation needs illustrate the importance of technology to manage this complexity.

The IRA is a complex and critically important piece of legislation, and the Treasury Department plays the essential role of providing industry with needed guidance to properly implement the law. Friday’s guidance is an important step in that direction, providing needed certainty to many industries. The guidance is not yet final and industry is encouraged to provide feedback to the IRS over the coming months. For more information on how to identify tax credits for purchase or how to list tax credits for sale, get in touch with us.