Proposed regulations address clean electricity investment credit

What happened?

The IRS and Treasury on June 3 published proposed regulations on the Section 45Y clean electricity production tax credit and the Section 48E clean electricity investment tax credit. The regulations generally are proposed to apply to qualified facilities and energy storage technology placed in service after 2024 during a tax year ending on or after final regulations are published in the Federal Register.

Comments on the proposed regulations are due by August 2, 2024. Public hearings are scheduled for August 12 (in person) and August 13 (by telephone).

This insight discusses the proposed general rules relating to Section 48E. The PwC Insights Proposed regulations on clean electricity tax credits provide rules on greenhouse gas emissions and Proposed regulations address clean electricity production credit discussed the proposed rules relating to greenhouse gas (GHG) emissions, which apply to both credits, and the proposed general rules for the Section 45Y credit.

Why is it relevant?

The proposed regulations are the first IRS and Treasury guidance implementing Section 48E, which replaces Section 48 as the primary tax incentive for investment in clean electricity facilities placed in service after 2024. Section 48 will sunset for most energy property that begins construction after 2024. Taxpayers may claim a credit under either Section 48 or Section 48E for facilities that begin construction before 2025 and are placed in service after 2024. 

Action to consider:

The preamble to the proposed regulations describes extensive issues on which the IRS and Treasury have requested specific comments. Taxpayers might consider submitting comments on these or other issues. Taxpayers with facilities qualifying for either the Section 48 or Section 48E credit should consider conducting modeling to evaluate which credit produces the more beneficial result.

Qualified investment

The Section 48E credit generally is 6% of qualified investment in a qualified facility or energy storage technology (defined in Section 48(c)(6)), increased to 30% if a taxpayer meets prevailing wage and apprenticeship requirements or exceptions in constructing, repairing, or altering the facility. The credit is phased out under the same conditions as the Section 45Y credit. Qualified investment is the sum of (1) the basis of qualified property placed in service during the tax year that is part of a qualified facility, (2) the basis of energy storage technology placed in service during the tax year, and (3) expenditures paid or incurred for qualified interconnection property placed in service during the tax year.

Qualified facilities

In general

Under Section 48E, a qualified facility (1) is used to generate electricity, (2) is subject to depreciation or amortization, (3) has a GHG emissions rate of not more than zero, (4) is placed in service after 2024 (or a new unit is placed in service or capacity expanded after 2024 to the extent of increased production), and (5) has not been allowed a credit for any tax year under Section 45, 45J, 45Q, 45U, 45Y, 45Z, 48, or 48A.

The proposed regulations further define a qualified facility to include (1) a unit of qualified facility and (2) components of property owned by the taxpayer that are an integral part of a qualified facility. A component of property may be part of a qualified facility although not co-located. Electrical transmission equipment and equipment beyond the electrical transmission stage are not part of a qualified facility.

A unit of qualified facility includes all functionally interdependent components of property owned by the taxpayer that are operated together and can operate apart from other property to produce electricity. A component is functionally interdependent if placing the component in service is dependent on placing in service other components to produce electricity. A taxpayer must have an ownership interest in an entire unit of qualified facility and not only in a component.

A component of property is an integral part of a qualified facility if it is used directly in, and is essential to the completeness of, the facility’s intended function. Integral parts of a qualified facility are parts of the qualified facility. A taxpayer may not claim the Section 48E credit for any property that is an integral part of the taxpayer’s qualified facility and the taxpayer does not own. The proposed rules specifying types of property that are integral parts of a qualified facility mirror the Section 45Y rules. See the PwC Insight Proposed regulations address clean electricity production credit.

The proposed regulations provide that property shared by more than one qualified facility (whether owned by the same or different taxpayers) may be an integral part of each facility. The cost basis of the shared property must be allocated to each qualified facility and not exceed 100%. A taxpayer may claim a Section 48E credit only for the portion of the cost basis allocable to the taxpayer’s qualified facility. A taxpayer or taxpayers may claim a Section 45Y credit for one qualified facility and a Section 48E credit for another qualified facility that share a component of property that is an integral part of each facility.

Observation: The Section 48E rules for qualified facilities are essentially the same as the rules defining “energy property” for purposes of Section 48. The “unit of qualified facility” rule is adopted from the “unit of energy property” rule in the Section 48 proposed regulations. See the PwC Insight Proposed regulations define energy property for Section 48 investment tax credit. 

New units or capacity

The proposed regulations treat a new unit or an expansion of capacity placed in service after 2024 at a facility placed in service before 2025 as a separate qualified facility. A new unit or capacity expansion requires the addition or replacement of qualified property, including new or replacement integral property necessary to increase capacity. A taxpayer must use a modified or amended facility operating license or the International Standard Organization conditions to measure the facility’s maximum electrical generating output and determine its nameplate capacity.

The proposed regulations provide that, for purposes of applying the exception to the prevailing wage and apprenticeship requirements for a facility with a maximum net output of less than one megawatt, the capacity of a new unit or capacity addition is the sum of the nameplate capacity of the added unit or capacity and the nameplate capacity of the facility to which the unit or capacity was added.

A facility that was decommissioned and restarts has increased capacity if (1) the existing facility ceased operations, (2) the existing facility was shut down and without a valid operating license for at least one calendar year, and (3) the increased capacity of the restarted facility has a new, reinstated, or renewed operating license.

The credit for adding a new unit is the taxpayer’s qualified investment in the new unit. A taxpayer’s qualified investment in additional capacity is based on the components of property added to a facility and necessary to increase its capacity. The taxpayer determines its qualified investment in the added capacity by multiplying its total qualified investment during the tax year by the fraction of the increase in nameplate capacity that results from the addition of capacity over the total nameplate capacity associated with the components of property resulting in the addition of capacity.

Retrofitted facilities

The proposed regulations adopt the “80/20” rule, which treats a qualified facility that contains some used components in a unit of qualified facility as originally placed in service when the new components are placed in service. The rule applies if the fair market value of the used components is not more than 20% of the total value of the unit of qualified facility. Only the cost of new components (costs properly included in depreciable basis) is taken into account in determining the credit amount.

Qualified property

Under Section 48E, qualified property must be (1) depreciable or amortizable, (2) tangible personal property or other tangible property (except buildings and structural components) used as an integral part of a qualified facility, and (3) constructed, reconstructed, or erected by the taxpayer, or acquired by a taxpayer that has original use.

The proposed regulations define “tangible personal property” as all tangible property, including machinery and all property contained in or attached to a building, but excluding land and improvements such as buildings, structural components of buildings, and other inherently permanent structures. “Other tangible property” is tangible property, excluding buildings and structural components, used as an integral part of furnishing electricity by a person engaged in that trade or business.

Qualified property is constructed, reconstructed, or erected by the taxpayer if qualified work is performed by the taxpayer or for the taxpayer according to the taxpayer’s specifications. A taxpayer acquires qualified property when the taxpayer obtains rights and obligations regarding the property, such as title or physical possession. Original use of property is the first use of the property by any person. Retrofitted property that meets the 80/20 test is treated as originally used by the taxpayer.

Energy storage technology

Qualified investment under Section 48E includes the basis of energy storage technology. The proposed regulations identify the types of energy storage technology as electrical, thermal, and hydrogen energy storage property. Under the proposed regulations, energy storage technology includes a unit of energy storage technology and integral parts of energy storage technology under rules similar to the rules for qualified facilities. Certain modifications to electrical or hydrogen energy storage technology property that increase nameplate capacity may qualify as energy storage technology to the extent of the modification’s basis.

Qualified interconnection property

Qualified investment includes amounts a taxpayer pays or incurs (that are chargeable to capital account) for qualified interconnection property (defined in Section 48(a)(8)(B)) in connection with a qualified facility. The facility must have a maximum net output of no more than five megawatts and be placed in service in the tax year.

The proposed regulations specify that, for purposes of the five-megawatt limitation, the maximum net output of a qualified facility is measured solely by the nameplate generating capacity of the unit of qualified facility when placed in service, excluding the nameplate capacity of any integral property.

Under the proposed regulations, qualified interconnection property is not part of a qualified facility and is not taken into account in determining whether the facility satisfies the requirements for the domestic content or energy community credit bonuses.

Placed in service

The proposed regulations provide that qualified facilities and energy storage technology are placed in service in the earlier of the tax year that (1) the depreciation period for the property begins or (2) the property is placed in a condition or state of readiness and availability to produce electricity. A facility may be in a condition or state of readiness and availability although replacement components are later acquired and set aside to avoid operational time loss and equipment that is operational but undergoing testing is acquired for a specifically assigned function. A lessor of property that has elected to treat a lessee as the purchaser of the property places the property in service in the tax year the lessor transfers possession to the lessee.

Ownership

The proposed regulations provide that a taxpayer may claim a Section 48E credit for a unit of qualified facility or energy storage technology if the taxpayer directly owns at least a fractional interest in the entire unit. The taxpayer’s eligible investment is based on its ownership interest. Trades or businesses under common control are treated as one taxpayer in determining whether a taxpayer has made an investment.

A taxpayer may not claim a credit for separate components that do not constitute a unit of qualified facility or energy storage technology, but may claim a credit for a unit of qualified facility or energy storage technology although another taxpayer owns and uses property integral to the facility or technology.

The proposed regulations provide that, if a qualified facility or energy storage technology is owned through an unincorporated organization that elects out of subchapter K under Section 761(a), each member’s undivided ownership share is a separate facility or technology owned by the member.

The Section 48E credit is part of the investment tax credit and thus subject to the basis reduction and recapture provisions of Section 50. Section 48E property also fails to be investment credit property, and the credit is subject to recapture, if Treasury determines that a facility’s GHG emissions rate in any tax year exceeds 10 grams of CO2e per kilowatt/hour of electricity produced (a recapture event).

Observation: The additional recapture may occur because the Section 48E credit is claimed in the year a facility is placed in service but eligibility depends on the GHG emissions during production tax years.

The proposed regulations require a taxpayer to determine if a recapture event has occurred in any tax year within the five-year period after placing a facility in service. The recapture amount is 100% of the credit claimed if the recapture event occurs in the first tax year reduced by 20% in each succeeding tax year. A taxpayer “claims” the credit by submitting a completed Form 3468 with a timely filed income tax return. A taxpayer that has claimed or transferred the credit must report information on the facility’s GHG emissions rate to the IRS annually during the recapture period in the form and manner to be provided in later guidance.