This article, from law firm Jones Day, is authored by Thomas Havens.
After months of fierce lobbying by the wind power industry, a last-minute addition to the highly controversial “fiscal cliff” legislation was the fifth—and possibly last—extension of the federal production tax credit (“PTC”) for wind energy facilities. Specifically, as part of the American Taxpayer Relief Act of 2012 (“ATRA”) passed by Congress on January 1, 2013, Section 45 of the Internal Revenue Code of 1986 was revised to extend the PTC for wind energy facilities and certain other renewable power projects, the “construction of which begins before January 1, 2014.”
The ATRA provision not only extended the PTC deadline from January 1, 2013 to January 1, 2014, but even more significantly, altered the required status of a PTC-eligible project from having to be “placed in service” by the deadline to only starting construction by year-end 2013. Congress’ intent in changing the operative standard in Section 45 was to provide more “breathing room” for projects to qualify for the PTC following the 11th hour, one-year extension. This modification to Section 45 should permit many more wind projects to qualify for a PTC than would have been the case if the “placed in service” requirement had been retained.
Under revised Section 45, taxpayers can claim a PTC for electricity generated from eligible renewable projects over a 10-year period. In addition to wind projects, the revisions extend the PTC to qualifying geothermal, biomass, landfill gas, hydropower, trash-to-energy, and marine and hydrokinetic facilities that begin construction before January 1, 2014. The PTC for wind energy, geothermal, and closed-loop biomass facilities is $0.022/kWh while the credit for open-loop biomass, landfill gas, hydropower, trash-to-energy, and marine and hydrokinetic facilities is $0.011/kWh (each indexed for inflation).
The ATRA also amended Section 48 of the Code to allow projects using the PTC-eligible technologies that begin construction in 2013 to claim a 30% investment tax credit ( ITC ) in lieu of the PTC. In addition to extending the PTC and ITC election for eligible renewable power projects, the ATRA also renewed the first-year “bonus depreciation” for such projects under Section 168(k) of the Code (equal to 50% of the eligible cost basis of such projects) if they are placed in service in 2013.
The ATRA does not define the construction activities that must be completed in 2013 for a PTC-eligible renewable project to be deemed to have started construction this year. But the new standard in Section 45 mimics the rule that was used to qualify for a U.S. Department of Treasury cash grant in lieu of a tax credit under the now-expired Section 1603 cash grant program created under the 2009 “stimulus bill,” formally known as the American Recovery and Reinvestment Act. In general, under the guidance issued by Treasury in March 2009 for the 1603 grant program, a taxpayer could establish that an eligible renewable energy project had begun construction either by performing “physical work of a significant nature” or by satisfying a more objective “safe harbor” by incurring at least five% of eligible project costs.
Under the “physical work” test, the taxpayer (project owner) must perform “significant” physical construction work at the project site, such as excavating foundations for wind turbines, and such activities, once begun, must be part of a “continuous” program to construct the project. To qualify a project under the “5% safe harbor,” the taxpayer generally must pay or incur at least 5% of the total eligible costs of the project. Treasury is expected to issue formal guidance on amended Section 45 in the coming months, which should reveal whether and to what extent the new standard will be interpreted in a similar fashion to the 1603 grant program.
Importantly, Section 45, as revised, no longer expressly requires that a PTC-eligible renewable project be “placed in service” by a certain date to qualify for a PTC. One concern is that developers could attempt to qualify numerous, perhaps uneconomic, projects for valuable federal tax benefits by starting construction in 2013, with an unlimited amount of time to complete construction. Some are therefore questioning whether Treasury, in its forthcoming interpretive guidance, will place an outside date on when a project that commences construction before January 1, 2014 must be completed and placed in service.
However, construction periods vary widely across renewable energy projects and technologies. For example, the construction period for onshore wind projects generally is from four to 10 months but is much longer for offshore wind projects. Treasury, therefore, could not address these concerns by simply imposing a single “placed in service” deadline for all PTC-eligible renewable projects that start construction this year, without also threatening the legislative purpose behind the change in Section 45. It is more likely that Treasury will largely follow the guidance it issued for the Section 1603 grant program, particularly since a taxpayer’s compliance with either a “physical work” or “5% safe harbor” test will virtually ensure project completion within a reasonable period of time. Even without a specific “placed in service” deadline, developers will have strong commercial incentives to bring projects into service as soon as practicable and begin to earn a return on the substantial capital they will have to commit and invest this year in equipment and services to “start construction” and qualify for these important tax credits.