New/Expanded Incentives for Sustainability-Related Investments
The picture is becoming clearer for the Inflation Reduction Act tax credits, with further guidance to come.
Among the most substantial changes are the increased rates for the production and investment tax credits. The IRA utilizes a tiered credit structure with base rates and increased rates. The increased rate (up to 5x the base rate) requires the taxpayer to meet prevailing wage and apprenticeship requirements. There are also bonus credit opportunities for Internal Revenue Code (IRC) § 45 and § 45Y and IRC § 48 and § 48E credits based on the project location (in an energy community) and domestic content for the project. In addition, there are bonus credits available for smaller solar and wind facilities in low-income communities under IRC § 48(e) and § 48(h).
In the eight months since enactment, more information and guidance continues to be provided for these five possible “bonus” credit requirements. With notices released in November, February, and April, developers and investors have gained more information about the IRA tax credits and the requirements needed to maximize their value.
On April 4, 2023, the U.S. Treasury Department (Treasury) and the IRS released Notice 2023-29 (Energy Community Notice), providing information about energy communities and how to claim bonus credits for investments in energy communities. Shortly after the initial release, on April 7, 2023, Treasury clarified that the Energy Community Notice applied to projects beginning construction after January 1, 2023.
Among the most substantial changes are the increased rates for the production and investment tax credits. The Energy Community Notice applies to developers and investors with qualifying energy projects eligible for a 10 percent “bonus” credit under IRC § 45 and § 45Y (the production tax credits) and 10 percentage points for § 48 and § 48E (the investment tax credits). The Energy Community Notice provides rules for defining what is an “energy community” and whether a project is located or placed in service in an energy community.
There are three categories of energy communities: (1) brownfields — real property for which expansion, redevelopment, or reuse may be complicated by a hazardous substance and certain mine scarred land — but not land that has been cleaned up or otherwise excluded under 42 U.S.C. § 9601(39)(B); (2) statistical areas that have certain levels of fossil fuel employment or tax revenue related to coal, oil, or natural gas industries and have above average unemployment; and (3) census tracts (or adjoining tracts) in which a coal mine has closed since December 31, 1999 or a coal-fired electric generating unit was retired after December 31, 2009.
The Energy Community Notice includes Appendices A and B (Appendix A and Appendix B), which delineate all of the MSAs/non-MSAs that qualify as eligible statistical areas (with annual unemployment rates for a calendar year released each April for the period May–April of the following year). Also included is Appendix C,3 which lists all of the coal closure census tracts (Appendix C). Moreover, a searchable map, like the one for opportunity zones, is now available at Energy Community Map.
The Energy Community Notice provides rules for defining what is an “energy community” and whether a project is located or placed in service in an energy community. Domestic Content
The bonus for meeting certain domestic content requirements for steel, iron, and manufactured products likewise applies to § 45, § 45Y, § 48 and § 48E of the IRC. Under the IRA, those sections reference various other provisions, including the Buy America regulations. Here, we expect future Treasury guidance, but it appears that 100 percent of the iron and steel (for those components made primarily of iron and steel) and 40 percent of the total cost of all manufactured products have to be produced in the United States to qualify (see § 45(B)(9)(b)(ii-iii) for most qualifying energy projects (20 percent for an offshore wind facility)). However, it’s hoped that Treasury guidance will be available soon to further clarify this provision.
Treasury also issued Notice 2023-17 on February 13, 2023, establishing the Low-Income Communities Bonus Credit (“LIC Bonus”) program under IRC § 48(e). The LIC Bonus program provides for an increase of up to 20 percentage points to the investment tax credit for solar and wind energy projects in low-income communities. The LIC Bonus program will allocate 1.8 gigawatts of capacity available in 2023 across four categories for solar and wind projects with maximum output of less than five megawatts (MW) in low-income communities (700MW), on Tribal land (200MW), for federally subsidized residential buildings (including housing supported by the LIHTC and Section 8) (200MW), and facilities where at least 50 percent of the financial benefits of the electricity produced go to households with incomes below 200 percent of the poverty line or below 80 percent of area median gross income (700MW).
The application process for the LIC Bonus program opens in two phases, with low-income residential buildings and those that benefit low-income households accepted first during a 60-day application window expected in calendar Q3 of 2023, with applications for other projects to follow.
Prevailing Wage and Apprenticeships
Notice 2022-61, released November 30, 2022, provides initial guidance for the prevailing wage and apprenticeship provisions in the IRA. The guidance is applicable to projects with construction beginning January 30, 2023 or later, and re-confirms the rules for determining when “construction begins” — either when physical work of a significant nature begins or, under the safe harbor, when 5 percent or more of the total cost of the project or facility is incurred, subject to continuous construction or efforts requirements.
It appears that 100 percent of the iron and steel…and 40 percent of the total cost of all manufactured products have to be produced in the United States to qualify.
The guidance in Notice 2022-61 is primarily a review of the IRA provisions. However, the guidance does indicate that the Treasury and IRS may issue regulations and additional guidance about the prevailing wage and apprenticeship requirements. In the interim, the IRA provides that laborers and mechanics employed by the taxpayer (the owner of the project when placed in service) and all contractors and subcontractors engaged by the taxpayer must be paid prevailing wages of the locality for the specific profession and classification during construction, alteration, or repair of a covered facility. Wage determinations are published by the Department of Labor (DOL) at www.sam.gov, and if the information needed is not listed there, taxpayers can request a wage determination or rate from the DOL via email at IRAprevailingwage@dol.gov.
The text of the IRA itself allows a taxpayer to cure a failure to satisfy prevailing wages through catch-up payments, with interest, to each worker paid below the prevailing wage and penalty payments to the IRS that amount to $5,000 per affected worker. Higher payments to workers (3x the difference between actual and prevailing wages) and higher penalties ($10,000 per affected worker) apply where the failure to pay prevailing wages is the result of an intentional disregard of the regulations.
The apprenticeship provisions generally require that (1) a certain percentage of the total labor hours for construction, alteration, or repair of a covered facility must be performed by qualified apprentices; (2) taxpayers (and their contractors and subcontractors) who employ four or more individuals must also employ at least one qualified apprentice; and (3) taxpayers must maintain the required ratio of journeymen to apprentices for the duration of the project (for example, construction that begins during 2023 requires 12.5 percent, and after December 31, 2023, it requires at least 15 percent qualified apprenticeship labor). The guidance notes that taxpayers must employ apprentices through a “registered apprenticeship program,” meaning one registered under the National Apprenticeship Act or by the DOL. A good-faith effort exception exists under the Notice if the taxpayer requests qualified apprentices from a registered program and either the request is denied or the program fails to respond to the request within five (5) business days. A taxpayer can only rely on this exception if they maintain sufficient records documenting the request.
The IRA provides that laborers and mechanics employed by the taxpayer and all contractors and subcontractors engaged by the taxpayer must be paid prevailing wages of the locality…during construction, alteration, or repair of a covered facility.
More Guidance Still Needed for Other Aspects of the IRA
Among the most important provisions, the IRA authorizes the one-time cash sale of certain 2023 and later federal tax credits to other parties pursuant to § 6418 of the IRC without the use of tax equity structures. The seller notifies the IRS of the sale by filing an “election” with its tax return. Sellers do not have to report the sales proceeds as income, and buyers cannot deduct the purchase price.
There remain open questions about the transfer of credits and, for instance, requirements for buyers of credits. Additional reporting or registration rules are expected from Treasury, as well as guidance on issues such whether passive activity credit rules apply to purchasers on energy credits under § 6418.
An overview of commercial tax credits/deductions in the IRA can be found on our website at insert bit.ly/ira-credits, as well in the White House’s IRA guidebook released earlier this year. We encourage you to contact a Vorys attorney or advisor with questions about these new provisions.
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