On August 10, 2023, the IRS issued T.D. 9979 (the “Final Regulations”) and Revenue Procedure 2023-27 (the “Revenue Procedure”). The Final Regulations and the Revenue Procedure address the administration and interpretation of Section 48(e), an allocation-based investment tax credit (“ITC”) enhancement for projects located in specified low-income communities (the “Low-Income Community Enhancement”) that was enacted under the Inflation Reduction Act of 2022 (the “IRA”). The Final Regulations adopt, with numerous modifications, the Proposed Rules published in May, while the Revenue Procedure effectively supersedes the February issuance of Notice 2023-17.
The Final Regulations apply to taxable years ending on or after the date that is 60 days after publication in the Federal Register. The Revenue Procedure applies to taxable years ending on or after the date of publication of the Final Regulations.
Background
Assuming that certain labor-based requirements are met, the ITC for a solar or wind facility under Section 48 is generally equal to 30% of eligible basis. As explained in previous articles, the Low-Income Community Enhancement increases this rate for four types of facilities: facilities located in census tracts that meet certain poverty rate and median income thresholds (“Low-Income Community Facilities,” or “Category 1”) and facilities located on tribal lands receive an additional 10 percentage points (“Category 2”), while facilities installed on residential rental buildings participating in specified affordable housing programs where the financial benefits of the project’s electricity are allocated equitably among the occupants (“Qualified Low-Income Residential Building Facilities,” or “Category 3”) and facilities producing electricity 50% of the financial benefits of which are provided to households with income less than 200% of the applicable poverty line or less than 80% of area median gross income (“Qualified Low-Income Economic Benefit Facilities,” or “Category 4”) receive an additional 20 percentage points. The enhancement applies only to a wind or solar facility with a maximum net output of less than 5 MW (AC) and is available only if an environmental justice solar and wind capacity limitation (“capacity limitation”), statutorily limited to an aggregate of 1.8GW for each of 2023 and 2024, and zero thereafter, is allocated to the facility by the Secretary of the Treasury.
Aggregation of Facilities into a Single Facility
Consistent with the Proposed Rules, for purposes of determining whether a facility has a maximum net output that exceeds the 5 MW ceiling, the Final Regulations aggregate multiple solar or wind energy properties or facilities into a single facility pursuant to the single-project factors in the “beginning of construction” guidance in Notice 2018-59 and Notice 2013-29, with the clarification that the analysis depends on the relevant facts and circumstances and no single factor is determinative. The IRS also clarified that if multiple facilities or energy properties are aggregated, they will be seen as a single facility for all purposes under the Low-Income Community Enhancement program. The Final Regulations use similar factors to determine when energy storage technology is considered to be “installed in connection with” the wind facility or solar (or small wind) energy property for purposes of the enhancement. In contrast to the generally applicable ITC rules, which post-IRA provide a credit for standalone storage, in order to qualify for the Low-Income Community Enhancement, the energy storage technology also must be charged (based on an annual average) at least 50% by the other eligible property, with this requirement deemed met if the power rating of the energy storage technology is less than two times the capacity rating of the connected wind facility (AC) or solar facility (DC).
Consistent with the Proposed Rules, the Final Regulations state that for purposes of determining whether a qualified solar or wind facility is located in a low-income community, on Indian land or in an area meeting the Geographic Criteria (see below), 50% of the facility’s nameplate capacity (excluding the nameplate capacity of any energy storage technology installed in connection with the facility) must be in the qualifying area.
Category 3: Identifying Qualified Low-Income Residential Building Facilities
The Final Regulations clarify that a facility can be treated as installed on a residential rental building participating in a specified affordable housing program if it is installed on the same or adjacent parcel of land as such building. The Preamble to the Final Regulations also contains a list of covered federal housing programs and policies, which also will be available on the program’s website; the IRS does not include other housing programs (such as state-specific programs) on the list, but the Preamble leaves open the possibility that additional housing programs may be added in future.
In assessing whether the financial benefits of a Qualified Low-Income Residential Building Facility’s electricity are allocated equitably among the occupants, the Final Regulations state that at least 50% of the “financial value” of the energy produced by the facility must be equitably passed on to building occupants who are designated as low-income occupants under the relevant program. Equitable distribution generally is accomplished either through (1) distributing (via utility bill savings) equal shares among the designated low-income occupants, or proportional shares based on each low-income dwelling unit’s square footage or number of occupants, or (2) distributing certain benefits as described in Department of Housing and Urban Development (“HUD”) guidance, such as facility upgrades, community events, wellness literacy / financial literacy programs, and free or reduced-cost high-speed internet. The Final Regulations define the financial value of energy production as the greater of 25% of the gross financial value (including federal renewable energy tax credits or incentives), or 100% of net financial value (i.e., gross financial value minus either (i) if the facility and the building are commonly owned, specified costs such as debt service, construction, and O&M costs, or (ii) if the facility and the building are not commonly owned and the facility owner enters into a PPA or other contract for energy services with the building owner and/or occupants, payments by the building owner and/or occupants to the facility owner for energy services). The Final Regulations also provide documentation requirements for facility owners with respect to such equitable distribution, including the preparation of a Benefits Sharing Statement, which replaces the requirement in the Proposed Rules of a benefits sharing agreement between building owners and tenants that was determined to be too burdensome and unnecessary to demonstrate compliance. As in the Proposed Rules, applicants must follow guidance from HUD to ensure that the tenants’ utility allowances and annual income for rent calculations are not negatively impacted. Overall, such rules are conceptually similar to, but not identical to, the Proposed Rules.
Category 4: Identifying Qualified Low-Income Economic Benefit Facilities
In assessing whether the financial benefits of a Qualified Low-Income Economic Benefit Facility’s electricity are provided to qualifying low-income households, the Proposed Rules require that the facility must serve multiple qualifying low-income households and at least 50% of the facility’s total output must be assigned to such households, with a bill credit discount rate of at least 20% for each such low-income household, calculated on an annual basis. The “bill credit discount rate” is the net financial benefit of program participation for the qualifying household as a percentage of the gross financial benefit, taking into account the costs and benefits of program participation, e.g., subscription payments and other fees or charges, utility bill credits, and reductions in household electricity rate; if the cost of participation is zero or nominal, the bill credit discount rate is the financial benefit for the qualifying household as a percentage of the value of electricity production assigned to the qualifying household. The Final Regulations also provide methods (conceptually consistent with the Proposed Rules) for verifying the low-income status of such households, either through proof of participation in a qualifying state or federal program, or through pay stubs, tax returns, credit agencies or commercial sources.
Revised Procedures for Capacity Limitation Allocations
The Final Regulations provide that published guidance will divide the capacity limitation for each program year across the four facility categories based on factors such as anticipated allocations and market participation goals; at least 50% of the total capacity limitation in each category must then be reserved in published guidance for qualified facilities meeting the Ownership Criteria or Geographic Criteria (the “Additional Selection Criteria,” described below). A specific portion of the Category 1 allocation will also be reserved in published guidance for eligible residential behind the meter (“BTM”) facilities, including rooftop solar, based on factors such as promoting efficient allocation of capacity limitation and allowing like projects to compete for allocation. For 2023, the Revenue Procedure reserves (i) 700 MW for each of Category 1 (of which 490 MW is reserved for eligible residential BTM facilities and the remaining 210 MW is available for front of the meter facilities and non-residential BTM facilities) and Category 4, and 200 MW for each of Category 2 and Category 3 and (ii) 50% of the capacity limitation in each facility category for facilities meeting the Additional Selection Criteria.
The Final Regulations, for the most part, adopt the definition of Ownership Criteria and Geographic Criteria in the Proposed Rules. The Ownership Criteria are met if a facility is owned by a tribal Enterprise (i.e., an entity controlled by an Indian tribal government in specified ways), an Alaska Native Corporation, a qualified tax-exempt entity (e.g., tax-exempt organization, state/local or Indian tribal government (including an agency or instrumentality thereof), or cooperative furnishing electricity to rural areas), a renewable energy cooperative (i.e., a solar and/or wind developer and consumer or purchasing cooperative that is either 50% owned by low-income household members with specified profits distribution rights or controlled by worker-members, in each case, with equal voting rights), or a “qualified renewable energy company” meeting certain characteristics. The definition of a “qualified renewable energy company” is significantly broader in the Final Regulations than in the Proposed Rules: A qualified renewable energy company can qualify as such by (1) being 51% owned and controlled by one or more individuals, a Community Development Corporation, an agricultural or horticultural cooperative, an Indian tribal government, an Alaska Native Corporation or a Native Hawaiian Organization, (2) having less than 10 full-time equivalent employees and less than $20 million in annual gross receipts in the previous calendar year, (3) having first installed or operated a qualifying wind or solar project at least two years prior to the application, or (4) having provided solar services as a contractor or subcontractor to a qualifying wind or solar project with at least 100 kW cumulative nameplate capacity located in a low-income community (as defined in Section 45D(e) or on Indian land. Unlike the Proposed Rules, the Final Regulations provide that an applicant that is a partnership for federal income tax purposes will meet the Ownership Criteria so long as one of the qualifying entities owns at least 1% (directly or indirectly) of each material item of partnership income, gain, loss, deduction and credit and is a managing member or general partner under state law (or directly owns 100% of the equity interests in the managing member or general partner), which is intended to allow applicants more flexibility to enter financing arrangements—including tax equity deals.
Consistent with the Proposed Rules, the Geographic Criteria are met if a facility is located in a Persistent Poverty County (i.e., 20% or more of residents have experienced high rates of poverty over the past 30 years, based on measures by the Department of Agriculture) or in a census tract that is designated in the Climate and Economic Justice Screening Tool as disadvantaged based on certain specific metrics.
Rescission, Disqualification, and Recapture
The Final Regulations indicate that an application may not administratively appeal decisions regarding capacity limitation allocations. Consistent with the Proposed Rules, qualifying facilities must be placed in service after being awarded an allocation of capacity limitation and awards of allocation after a facility is placed in service will be rescinded.
A facility will be disqualified and lose its allocation if, prior to being placed in service, one of the following occurs: (1) the location of placement in service changes, (2) the net output increases to 5 MW AC or higher, or the nameplate capacity decreases by the greater of 2 kW or 25% of the awarded allocation (AC for a wind facility, DC for solar facility), (3) the eligible property receiving the allocation is not placed in service within four years after the date the applicant was notified of the allocation, or (4) the facility no longer satisfies the financial benefits requirements for Category 3 projects or Category 4 projects or the Ownership Criteria, as applicable.
Section 48(e)(5) provides for recapturing the benefit of any Low-Income Community Enhancement with respect to any property that ceases to be eligible for the enhancement but continues to be ITC-eligible; such recapture adopts the five-year recapture period, and the 20% yearly phasedown of recapture, of the general ITC recapture rules in Section 50. The Final Regulations provide a onetime exception to such recapture if, within 12 months after the date the applicant becomes (or reasonably should have become) aware of such property ceasing to be eligible for the Low-Income Community Enhancement, the eligibility of such property for the enhancement is restored. In addition, if a facility increases its output beyond 5 MW AC or greater, recapture does not apply if the applicant can prove that the output increase is attributable to the repowering of a facility under the “80-20 test” and not to the original facility.
Administrative Procedure
Consistent with the Proposed Rules, the Revenue Procedure implements an initial 30-day application window at the start of each program year in which applications will be accepted for each category and treated as submitted at the same time, followed by a rolling application process and Department of Energy (“DOE”) review in the order of receipt until the capacity limitation is exhausted. Applications are collected through a DOE portal and must meet detailed documentation and attestation requirements set forth in the Revenue Procedure; documentation and attestation requirements, including with respect to the date of placed in service, must be met if an applicant is awarded an allocation of capacity limitation. The Revenue Procedure contains detailed rules for determining the order of review. In general, applications in oversubscribed categories or sub-reservations submitted in the initial 30-day period will be ordered according to lottery (with priority given to applications purporting to meet an Additional Selection Criterion and additional priority given to applications meeting both Additional Selection Criteria), but such applications submitted after the initial period will be reviewed in the order received only after all initially submitted applications have been reviewed (and then only if there is remaining capacity limitation). Capacity limitation allocation awards are not per se transferable by the taxpayer who applied for and received the allocation; such taxpayer must use the DOE’s publicly available written procedures (which are not explicitly identified in the Revenue Procedure) to initiate a transfer request with the IRS.
The Final Regulations and the Revenue Procedure resolve numerous outstanding questions from earlier iterations of guidance on Section 48(e). Aside from the inherent importance of the Low-Income Community Enhancement to the implementation of renewable energy facilities in underserved communities, the newest IRS guidance represents an important milestone—the first completion of a major regulatory project associated with the new clean energy tax provisions in the IRA. With this piece of the puzzle now substantially complete, it is to be hoped that the IRS and the Treasury will turn their attention to other clean energy tax provisions and continue this trend.
For further information, please contact:
Judy Kwok, Partner, Linklaters
judy.kwok@linklaters.com
