For the first time ever, qualifying tax-exempt taxpayers can now claim refundable energy tax credits (as cash payments), while other taxpayers can transfer energy tax credits to third parties for cash.
The Inflation Reduction Act of 2022 (IRA) enacted two new sets of credit monetization rules that are gamechangers for the renewable energy industry, because they create ways for taxpayers to get the benefit of the energy tax credits even if the taxpayer has little or no federal tax liability.
- The Direct Pay Election allows tax-exempt entities, such as non-profits, universities, public utilities, and state, local, and tribal governments to receive direct cash payments of the energy credits.
- The Transfer Election creates a financing tool for for-profit businesses with low tax liability that allows them to sell their credits to an unrelated third party for cash.
The Registration Process for Monetizing Energy Tax Credits
December 2023 saw the long-awaited launch of the IRA Pre-Filing Registration Tool, which is the new online IRS tool for taxpayers who intend to monetize energy tax credits. The IRS also released a 74-page User Guide and Instructional Video that taxpayers should review prior to accessing the IRA Pre-Filing Registration Tool. Taxpayers electing to transfer energy credits or who plan to elect direct payment refundable credits must register through the IRA Pre-Filing Registration Tool and receive a registration number from the IRS before monetizing their energy credits. The registration number must be included on the taxpayer’s annual return on IRS Form 3800, General Business Credits, when making a Direct Payment Election or the Transfer Election.
These novel credit monetization techniques offer a wide range of businesses and taxpayers significant potential value that was not available prior to the IRA, but the rules are complicated and must be followed. The most exciting news is that these two new credit monetization techniques have the potential to significantly expand the opportunities for many taxpayers to take advantage of energy tax incentives which were previously not available because they had minimal or no federal tax liability.
Background and Timeline: The 2022 IRA
The 2022 IRA is landmark energy and climate legislation intended to revitalize and expand the renewable energy industry with the extension and expansion of many energy tax credits and the introduction of several new energy tax credits. It broadens the applicability of tax credits traditionally available for renewable energy to new technologies such as clean hydrogen; increases the value of credits available for other technologies, such as carbon capture; and incentivizes the manufacturing of advanced technologies and mining of elements critical to those technologies.
The IRS proposed regulations in June of 2023 on these new investment techniques and held a public hearing after receiving hundreds of comments from taxpayers on the proposed guidance. The December launch of the IRA Pre-Filing Registration Tool opens the door wide now to taxpayers to take advantage of the new rules and to move ahead to develop clean energy projects in 2024 and beyond.
Treasury has announced that they are working on finalizing these rules early in 2024 so taxpayers and investors will have certainty on how to comply with the requirements. Key issues are still outstanding in many areas so final regulations are eagerly anticipated for both sets of rules.
More on the Direct Pay Election and the Transfer Election
The Direct Pay Election under Section 6417 unlocks the renewable energy industry to a wide range of tax-exempt and governmental entities who can now benefit from several clean energy investment and production credits, such as the solar tax credit, through cash payments of the tax credits. Entities that were previously unable to directly benefit from clean energy tax savings, such as nonprofit organizations, state and local governments and their instrumentalities, and Indian tribal governments can now move ahead to develop clean energy projects.
The Transfer Election under Section 6418 creates a new financing tool for businesses that have little or no federal tax liability by allowing them to transfer or sell credits to an unrelated third party. The intent of the new election is to allow project developers to reach a broader range of potential financing sources including companies with little or no experience in the renewable energy industry or investors that may not have considered investing in renewable energy projects, but who are interested in buying the energy credits to reduce their tax liability.
There are risks associated with using the Transfer Election for buyers which must be understood and addressed through contract negotiations and indemnity agreements. A market has developed to assist potential credit buyers that are not familiar with the renewable energy industry, but experienced renewable energy tax advisors should be involved in the taxpayer’s investment decisions.
Act Now
Taxpayers and investors should act now to explore these new credit monetization techniques, but they need to understand how to protect their investments.
Understanding the rules is key. Following the procedures that have been established by Treasury and the IRS is critical. Legal advisors who understand what your business needs to know and how to comply can give you invaluable assistance in moving ahead with renewable energy project investment, planning, and development.
If you need assistance with the IRA Pre-Filing Registration Tool and the requirements for using the Direct Pay Election or Transfer Election, please contact Susan Rogers at srogers@potomaclaw.com.
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