By Ryan Paul, CPA

The 2022 Inflation Reduction Act (IRA) represents a substantial U.S. commitment to clean energy, projecting $3 trillion in investments by 2032. Analysts foresee a surge in electrification, renewable power facilities, and building enhancements, peaking around the mid-2030s.

A key highlight of this legislation is the introduction of transferable energy credits, broadening avenues for individuals, pass-through entities, and for-profit organizations in the renewable energy sector.

Understanding the benefits and procedures surrounding these transferable energy credits presents a unique opportunity, especially for contractors and real estate developers.

 

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Understanding Section 6418 and Its Impact

Section 6418 enabled cash-based credit transfers starting January 1, 2023, allowing eligible taxpayers to transfer federal income tax credits from renewable energy investments. The IRS recently clarified procedures for executing these transfers, providing guidance through REG-101610-23.

This legislation establishes the framework for eligible taxpayers to sell specific federal income tax credits resulting from qualified renewable energy projects to unrelated parties. It outlines criteria for credit transfers, including eligibility, transfer methods, and key parameters governing the process.

The primary goal of Section 6418 is to encourage investment in renewable energy by facilitating the exchange of tax credits among eligible parties, ultimately, promoting growth in renewable energy initiatives and projects.

Initially lacking clear implementation details, the IRS’s guidance offers procedural guidelines, refined eligibility criteria, and specific requirements and limitations associated with these transfers.

This initiative has gained traction, with the first publicly announced large-scale energy tax credit transaction in August 2023 valued at $1.5 billion, highlighting the potential impact of this provision.

Eligible Energy Tax Credits

Starting in 2023, Section 6418 allows for the transfer of various federal energy tax credits related to renewable energy investments. The specific credits eligible for transfer under this section encompass a diverse range of energy initiatives, encouraging investment in sustainable practices and technologies–note that Section 45L is not a transferable credit. These 11 credits eligible for transfer include:

  • Section 30C (alternative fuel vehicle refueling property)
  • Section 45 (renewable electricity production)
  • Section 45Q (carbon capture equipment)
  • Section 45U (zero-emission nuclear power production)
  • Section 45V (production of clean hydrogen)
  • Section 45X (advanced manufacturing production)
  • Section 45Y (clean electricity production)
  • Section 45Z (clean fuel production)
  • Section 48 (clean energy property)
  • Section 48C (qualifying advanced energy project)
  • Section 48E (clean electricity investment)

Key Points to Consider

Transferring energy tax credits involves crucial factors: eligibility criteria for sellers and buyers, timing of credit sales, and the sale mechanics. Each credit has distinct transfer rules, including varying carryback and carryforward years. The general rules governing this process include:

Who can sell:

  • Any non-exempt taxpayer, including individuals, pass-through entities, and other organizations. Not-for-Profit, governmental entities, and other exempt organizations qualify for elective pay (“direct pay”) rather than transferability under IRC Section 6417. (Read more on rules for tax-exempt entities to monetize tax credits here.)

Who can buy:

  • Any entity with federal income tax liabilities that can utilize the credits, not related to the seller. Eligible buyers include partnerships, corporations (including S corporations), individuals, trusts, and similar taxpayers.

Timing for Sale:

  • Credits can be sold for taxable years starting after December 31, 2022.

Pre-Filing Registration Requirements:

  • This requirement outlines the need for a registration number per facility along with detailed documentation. The rules clarify that multiple parties can receive the credit, using the same number for each party but requiring separate numbers for different facilities involved. This guidance indicates that the IRS may plan to open an electronic registration portal in the near future.

Transfer Election Requirements:

  • The rules detail transfer election requirements: who can transfer, how and when the election should occur, and limitations. They allow partial transfers from eligible facilities and to multiple taxpayers, ensuring total transferred credits align with project eligibility.
  • Transfers are restricted if the taxpayer doesn’t own the eligible property or if the credits result from another taxpayer’s election. For certain projects like IRC Section 45Q and solar credits (IRC Section 48) with lease passthrough structures, credit transfers are not allowed from lessees.

Recapture Rules:

  • If an eligible project becomes ineligible after credit transfer, the transferee is responsible for recaptured tax credits. The seller must promptly inform the buyer if the project loses eligibility. Interestingly, IRC Section 6418 doesn’t prevent the taxpayer and transferee from agreeing to indemnify against recapture events.

Passive Activity Rules:

  • If a tax credit is associated with a “passive activity” then, the credit is limited under IRC Section 469 which governs passive activities. Any credit disallowed can be carried forward to subsequent tax years.

Excessive Transfers:

  • There is a 20% penalty for an excessive transfer; however, the penalty does not apply if the taxpayer receiving the credit shows that the transfer resulted from reasonable cause to be determined by a thorough review of transaction circumstances.

Other Factors and Limitations

The newly issued guidance covers a wide range of new specifications, with companies just starting to explore the financial opportunities and risks. Additionally, it’s challenging to pinpoint an exact selling price for energy credits; however, market research, understanding the current demand, and consulting with experts can help determine a competitive selling price.

For specific inquiries regarding the transfer of energy tax credits and their potential impact on the marketplace, clients can contact Ryan Paul, Partner on the PBMares Construction and Real Estate team.