Tax Incentives for US Renewable Energy: Potential Changes
The UN Climate Change Conference (COP26) could result in some countries announcing tax incentives to encourage renewable energy production.
This blog discusses potential changes to US tax legislation that could impact US tax equity projects.
Stumbling Blocks to Further Changes: Reconciling the Bills
Until recently, the issues that the tax equity section faced included obtaining Congress approval of federal spending in the fiscal year that commenced on 1 October 2021 and increasing the US Debt Ceiling that was due to be reached on 18 October 2021. In the end, Federal funding was extended until 3 December 2021, and the US Senate voted to increase the debt ceiling to cover spending until 3 December 2021. However, these are relatively short-term solutions that impact the likelihood of tax credits being extended without other changes to tax legislation.
In addition, extensions to tax credits rely on the resolution of issues surrounding two bills currently going through Congress. The USD 1 trillion Bipartisan Infrastructure Bill does not contain any expansion or extensions of energy tax credits and has been passed in the Senate. However, some Democrats in the House of Representatives refuse to vote for this bill until a separate USD 3.5 trillion Reconciliation Bill called the Build Back Better Act is approved. This Act has not been passed in either the Senate or House of Representatives.
The Reconciliation Bill does contain significant expansion of tax credits both in terms of extending the effective dates and the types of energy the credits would apply to. In addition, it covers funding of certain social programmes. However, centralists in the Democratic party want less spending on welfare and climate change. Therefore, there is not have enough support in either the House of Representatives or Senate.
Building Back Better
The Build Back Better Act is based on the US Department of the Treasury’s Green Book but contains statutory language absent from the Green Book.
The Act includes the following provisions discussed in more detail below:-
- Extension and Expansion – The existing Carbon Capture Credit, ITC and PTC would be extended at full value for 10 years including the extension of ITC to standalone energy storage projects, providing certain conditions are met. There would also be new tax credits for various technologies;
- Greater flexibility – Choice between ITC or PTC.
- Direct pay – Developers with limited tax liability would have option to monetise tax credits directly, without having to rely on financial structures that extract a portion of the tax credit value.
To qualify for the full 30% ITC, 3 conditions would need to be met:-
- Prevailing Wage – Would require contractors and sub-contractors on federally funded projects to pay their laborers wages and benefits no less than what others locally pay their workers for similar projects.
- Apprenticeships – Would require a number of apprenticeships to be provided under an apprenticeship program unless this is not possible in the area in which the project is located.
- Domestic Content – 55 per cent of the components must be sourced through US businesses.
The domestic content condition is likely to be the hardest to meet as many of the components used in renewable energy projects are manufactured in Asia. If all three conditions are not met, a reduced tax credit would apply which could result in the project being uneconomic.
Extension and Expansion
ITC Extension
The proposals would extend the full 30 % ITC for qualified facilities that begin construction before the end of 2031, and then phase down the credit value over 2 years. Stand-alone energy storage technology and linear generators would also qualify:
| Placed into Service | Current ITC | Proposed ITC |
| After 31 December 2021 | 26% | 30% |
| After 31 December 2022 | 22% | 30% |
| After 31 December 2023 | 10% | 30% |
| After 31 December 2031 | 10% | 26% |
| After 31 December 2032 | 10% | 22% |
| After 31 December 2033 | 10% | 10% |
PTC Extension
The full PTC rate would be extended until the end of 2031. The rate would then phase down to 80% in 2032 and 60% of the applicable rate in 2033:
| Year Construction Commences | Available PTC Percentage |
| 2022 – 2031 | 100% |
| 2032 | 80% |
| 2033 | 60% |
Flexibility
Solar energy facilities will have the option to choose between claiming the ITC or PTC rather than being restricted to the ITC.
Direct Pay
A taxpayer could elect to receive a cash payment in lieu of the available PTC or ITC in a similar way to the Section 1603 grant program which was temporarily created as part of the American Recovery and Reinvestment Act (ARRA) of 2009.
Timing of Refund – An exampleA project goes into service in January 2024 with a tax equity partnership in place. The partnership 2024 federal tax return would be due by the 15th day of the third month following the tax year end date (15 March 2025). The cash payment under a direct pay proposal would be received some months after the tax return is filed. This could result in the cash payment for this project being received in about September 2025. In comparison, under the Section 1603 grant program, the application for a cash payment could be filed immediately after a project went into service (January 2024) so the cash refund is received quicker. |
A cash payment instead of a tax credit can be advantageous. However, there are likely to be a number of disadvantages which may result in projects not making the election:
Tax equity – How Would Further Changes Be Financed?
If the refund is more than USD 5 million to a C Corp and USD 2 million to an individual, you may be required to go through a special refund process involving the IRS reviewing your refund claim and then reporting to a Joint Committee on taxation with some members being tax experts. They have 30 days to question the validity of the refund. If they do nothing, the refund is approved. However, if they question the refund, the process starts again resulting in the delay being even longer.
Given that some members of Congress are not in favour of spending the full USD 3.5 trillion, some amendments to the federal tax code may be made. Potential amendments include:-
- Corporate income tax rate increasing from 21% to 26.5% where taxable income is greater than USD 5 million;
- Individual income tax rate increasing to 39.6% if income is greater than USD 400,000;
- Increasing tax on capital gains; and
- Introducing a surcharge of 3% income tax on individuals with income of more than USD 5 million.
Some members of Congress may not vote to pass the bills if tax increases are required as they believe increasing corporate income tax will discourage businesses from investing in America. However, corporate income tax increases do increase the value of tax credits to potential investors as investors save more tax when using the tax credits. Tax increases could therefore lead to more projects being developed.
Conclusion
Given the different opinions on the benefits of providing tax credits and incentives to renewable energy projects, it is currently hard to determine the extent of any expansion and extensions. However, there is significant support for tax credits and so some extensions and expansion is likely.
Operis has experience in building models to optimise tax equity structures and auditing models relating to tax equity financing and can assist in establishing which of the available options individual projects should elect to take once any changes become law.
If you have any questions regarding the above or would like to speak to someone at Operis about potential issues relating to tax equity structures, please don’t hesitate to get in touch.
