The IRS issued the final regulations for the section 45Q carbon sequestration credit approximately a year after issuing long awaited proposed regulations.
The section 45Q carbon sequestration credit permits taxpayers to claim a credit for the recapture of carbon oxide. The available credit amount is based on the metric tons of carbon oxide a taxpayer captures and what the taxpayer does with the carbon oxide it captures. The credit rate is higher if a taxpayer places the carbon oxide into secure geologic storage and lower if the carbon oxide is used as a tertiary injectant in a qualified enhanced oil or nature gas recovery project or utilized by a taxpayer in certain commercial activities, including in a commercial market.
A number of commenters expressed concern about the proposed regulations’ five-year period for credit recapture. The regulations for the credit require a taxpayer to recapture the benefit of the credit when qualified carbon oxide leaks back into the atmosphere during the recapture period. The proposed regulations defined the recapture period as beginning on the date that carbon oxide is first sequestered and ending five years after the final year the taxpayer claims the credit.
In response to the comments, the IRS changed the recapture period to three years after the final year the taxpayer claims the credit. The IRS based its decision on studies that show that sequestered carbon oxide stabilizes in less than three years and after one year is 99% likely to remain securely stored for 1000 years. Additionally, commenters recommended a three-year recapture period to make it consistent with section 6501 tax assessment statute.
The proposed regulations did not provide a definition for a commercial market. Several commenters requested a definition, some very narrow. The final regulations adopted a broad definition. A commercial market is “a market in which a product, process or service that utilizes carbon oxide is sold or transacted on commercial terms.” A taxpayer claiming the credit for the capture of carbon oxide used in a commercial market must submit a statement to the Form 8933, Carbon Oxide Sequestration Credit, substantiating that a commercial market exists.
Life Cycle Analysis
When a taxpayer claims the credit by utilizing carbon oxide pursuant to section 45Q(f)(5)(A), such a taxpayer must submit a life cycle analysis (LCA). In response to the proposed regulations, the IRS received a number of comments. Many of the comments agreed that the independent third-party verification requirement was reasonable. The final regulations require that the independent third-party provide a statement documenting the third-party’s qualifications.
Several comments discussed the timing of when a taxpayer can claim the credit prior to the pre-approval of the LCA. An LCA undergoes a technical review by the DOE, and then the IRS determines whether to approve the LCA. A taxpayer that submits an LCA that is approved by the IRS will receive notification from the IRS. Many of the comments requested that taxpayers be permitted to claim the credit prior to pre-approval by the IRS, DOE and EPA. The IRS did not adopt those comments, and the final regulations still require that a taxpayer’s LCA be preapproved before the taxpayer may claim the credit.
The preamble to the regulations stated that the IRS will issue separate procedural guidance that provides additional details regarding the LCA submission and review process.
Section 45Q and these regulations are highly complex. Before attempting to claim the carbon sequestration credit, we highly recommend consulting with a tax professional that has the necessary subject matter expertise in this complex area.