Tax alert

Clean fuel incentives in the Inflation Reduction Act of 2022

Tax credits will spur investment in clean fuels; excise tax on crude oil reinstated

Aug 15, 2022
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Federal tax Business tax Credits & incentives Inflation

Executive summary: Clean fuel provisions

Energy and climate initiatives are a focal point of the Inflation Reduction Act of 2022, which provides for $369 billion of spending on climate-related provisions. The act, which President Joe Biden signed into law on Aug. 16, 2022 intends to facilitate the administration’s commitment to reducing economy-wide greenhouse gas emissions by 50%-52% of 2005 levels by 2030.  

Subtitle D of the Act contains 29 energy-related tax and credit provisions with a historic $271 billion of tax incentives on climate-related provisions. The provisions fall into nine broad categories:

  1. Clean electricity and reduce carbon emissions
  2. Clean fuels
  3. Clean energy and efficiency incentives for individuals
  4. Clean vehicles
  5. Investment in clean energy manufacturing and energy security
  6. Superfund excise tax
  7. Incentives for clean electricity and clean transportation
  8. Credit monetization and appropriations
  9. Other provisions

This alert discusses the clean fuels provisions and how they will affect the renewable fuels industry. Please see our previous alert on the energy provisions for general information on the clean energy provisions. 

Inflation Reduction Act of 2022 – Subtitle D: Energy Security

The Act provides massive incentives for investment in the domestic renewable energy industry. It contains a wide array of tax credits to incentivize significant renewable project development. Achieving energy security and reduction of carbon emissions via growth of the clean energy sector with tax incentives is a centerpiece of the bill. These tax credits will affect businesses across industries including energy, manufacturing, construction, private equity and consumer products. 

Senator Ron Wyden of Oregon, in a floor speech on Aug. 6, 2022, described the climate policy goals as investing in clean energy and jobs. The intent of the provisions is to use the tax code to reward efforts to reduce greenhouse gas emissions and increase energy efficiency by eventually replacing the existing energy tax credits with emissions-based credits that incentivize investment in clean electricity, clean transportation and energy conservation. 

In essence, the Act extends and modifies existing and expired renewable energy credits through 2024, adds new credits for additional technology and energy sources generally effective beginning in 2023, and then provides a switch in 2025 to three technology-neutral credits. The framework is the result of a compromise negotiated between the House and the Senate. 

For a number of the provisions, the Act requires additional qualifications for taxpayers to achieve a “bonus rate” on credits as opposed to a “base rate”: Those qualifications include:

  • Apprenticeship requirements. The apprenticeship requirements requires the taxpayer to guarantee that an increasing percentage of labor hours for the project are performed by “qualified apprentices.” The term “qualified apprentice” means an individual who is employed by the taxpayer or by any contractor or subcontractor and who is participating in a registered apprenticeship program.
  • Prevailing wage requirements. In circumstances where the bill provides for “bonus rates,” to claim this additional rate with respect to a project, the taxpayer must ensure that any laborers and mechanics employed by contractors and subcontractors are paid prevailing wages during the construction of the project. This means the taxpayer must ensure that any laborers and mechanics employed by the taxpayer or any contractor or subcontractor in the alteration or repair of such facility are paid wages at rates not less than the prevailing rates for alteration or repair of a similar character in the locality in which such facility is located as most recently determined by the Secretary of Labor.

Additionally, increased credit rates may apply if specific domestic content requirements are met. This encourages taxpayers to use steel, iron or products manufactured in the United States.

To facilitate investment in renewable energy projects where a project developer may not have taxable income, the Act provides two new mechanisms for monetization of certain nonrefundable income tax credits. 

In limited circumstances, the Act provides for an election to essentially treat certain credits as refundable through a “direct pay” mechanism. This provision allows for direct pay for exempt organizations, state and political subdivisions, the Tennessee Valley Authority, and Indian tribal governments for most of the renewable energy credits. It also provides for direct pay for all taxpayers with respect to three credits – section 45Q carbon capture and sequestration, section 45V clean hydrogen production and section 45X advanced manufacturing production tax credit.

Clean fuels

Part 2 of Subtitle D of the Act focuses on the clean fuel provisions. Below is a summary of the applicable provisions.

40A, 6426, 6427

Alternative fuels and biodiesel, and renewable diesel credits

Extended through 2024

Retroactive reinstatement of expired credits. Extension of credits for biodiesel, biodiesel mixtures, renewable diesel, renewable diesel mixtures, small agri-biodiesel producer, alternative fuels and alternative fuel mixtures.  Rules for a one-time payment of certain credits claimed for past periods to be published by Treasury.

40

Second-generation biofuel producer credit

Extended through 2024

Extends tax credit for second-generation biofuel. Applies to second-generation biofuel production after 2021.

40B; 6426; 6427

New sustainable aviation fuel credit

 

Applies to fuel sold or used in 2023 and 2024

New refundable income and excise tax credit of up to $1.75 per gallon for producers of sustainable aviation fuel mixtures.

 

Eliminates tax credit under section 40A for sustainable fuel produced from biodiesel.

45V

Clean hydrogen production credit

 

Applies to clean hydrogen produced after 2022

New general business credit for production of clean hydrogen at a qualified facility over a 10-year period. Effective beginning in 2022. Election to claim ITC in lieu of PTC. Increased credit amounts are available if certain wage and apprenticeship requirements are met. Direct pay election allowed for certain tax-exempt and government entities.

 

Direct pay and transferability of credits permitted.

45Z

Clean fuel production credit

Applies to clean fuel produced after 2024 and generally sold before 2028

New general business credit for clean transportation fuel that taxpayer produces at qualifying facility and sells for qualifying purposes. Fuel must meet certain emissions standards. Credit-per-gallon base amounts are $0.20 (non-aviation fuel) and $0.35 (aviation fuel). Increases in credit amount to $1.00 per gallon (non-aviation fuel) and $1.75 per gallon (aviation fuel) if wage and apprenticeship requirements are met. Under the credit, the lower a fuel’s carbon intensity score, the higher the potential credit. 

 

No credit allowed at a facility that includes property for which a credit is allowed under sections 45Q, 45X, or section 48 ITC for clean hydrogen production facilities during the taxable year.

 

Transferability of credit permitted.

Additional incentives to lower carbon emissions

In addition to the clean fuel credits, renewable fuel producers may be eligible for other tax credits.  In some cases, these credits can further reduce a fuel’s carbon intensity, which would increase the value of the fuel in low carbon fuel standard markets such as California, and potentially increase the amount of the clean fuel credit.  These credits are described below.

48

Energy investment tax credit (ITC)

 

Extended for most properties where construction begins by the end of 2034

Credit for up to 30% of investment in qualifying renewable energy property. Change in credit rate to base and bonus rate. To claim credit at bonus rate, apprenticeship and prevailing wage requirements must be met. Increased credit rate if domestic content requirement is met.

 

Expanded to include credit for new technologies:

·     Energy storage

·    Microgrid controllers

·    Linear generators

·    Dynamic glass

·    Biogas property

·    Interconnection property

 

Increased tax credit for solar facilities in low-income communities.

 

Transferability of credits permitted.

 

45Q

Carbon capture and sequestration credit

Extended for facilities where construction begins by the end of 2033

Tax credit for capture and sequestration or utilization of carbon emissions. Credit rates increased to potential amounts of $85 per metric ton for sequestration, $60 per metric ton for utilization or use in enhanced oil recovery operations and $180 per metric ton for direct air capture. Change in credit rate to base and bonus rate. Bonus rate would require satisfaction of prevailing wage and apprenticeship requirements. Reductions to minimum threshold capture requirements will allow for more facilities to qualify.

 

Direct pay and transferability of credits permitted.

 

48C

Advanced energy project credit

 

Effective 2023

Allocate new funding for construction, re-equipping or expanding manufacturing facilities for production of renewable energy property. This credit provides for up to 30% ITC for construction, re-equipping or expansion of a manufacturing facility that constructs qualifying property. Included in the definition of qualifying property is property that is equipment designed to refine, electrolyze or blend any fuel, chemicals or product which is renewable or low-carbon and low-emission.  The IRS considers awarding credit allocations to projects that have a reasonable expectation of commercial viability, job creation and net impact in reducing greenhouse gas emission, among other considerations. Credit rate reduced by 80% if wage and apprenticeship requirements are not met. Allocated funding of $10B total through 2031.

 

Transferability of credits permitted.

 

30C

Alternative fuel refueling property credit

 

Applies to property placed in service after 2022

Extends credit of up to 30% of investment for refueling property, including fueling pumps for E-85, natural gas, compressed natural gas, liquified natural gas, LPG and hydrogen, as well as electricity. Expands credit to up to $100,000 of qualifying costs per item of property. Prevailing wage and apprenticeship requirements for bonus rate. Eligible property must be located outside of urban areas.

Consumer incentives for renewable fuel

To support consumers, with respect to fuels and vehicles, the Act provides the following credits:

  • Electric vehicle credits of up to $7,500 per vehicle under section 30D
  • Creates a new $4,000 credit for previously owned “clean vehicles”
  • Creates a new credit for certain commercial “clean vehicles”

45W

Credit for qualified commercial clean vehicles

 

Applies to vehicles acquired after 2022

New general business credit for qualified commercial electric vehicles placed in service by the taxpayer. Credit is up to 30% of cost of vehicle. Credit based on vehicle’s weight; maximum credit is capped at $40,000 per vehicle.  Effective for vehicles acquired after 2022 and before 2032.

30D

Clean vehicle credit

Applies to vehicles placed in service after 2022

Credit of up to $7,500 per qualifying vehicle. Removes manufacturer vehicle cap. Sets new limits on price of vehicle and income limitations of buyers. Adds

requirements that would render electric vehicles made with any battery components manufactured by “foreign entities of concern” (e.g., China) ineligible to receive the credit after 2023

25E

Credit for previously-owned clean vehicles

 

Applies to vehicles acquired after 2022

Provides new $4,000 nonrefundable personal credit for qualifying previously owned clean vehicles to individual purchasers whose modified adjusted gross income does not exceed a specified limit. Taxpayer may elect to transfer the credit to a registered dealer in exchange for payment from that dealer. Credit terminates after 2032.

 

 

Excise taxes

With respect to fuels, the Act will:

  • Reinstate the section 4611 Hazardous Substance Superfund financing rate imposed on crude oil and petroleum products and increase the tax rate to 16.4 cents per barrel, adjusted for inflation. This change increases section 4611 taxes to 25.4 cents per barrel.
  • Make permanent the section 4121 excise tax on coal, which funds the Black Lung Disability trust fund.

Methane Emissions Reduction Program

While not part of the Subtitle D tax incentives, it should be noted that the Act includes a methane fee to reduce methane pollution from the oil and gas sector. The provision provides that certain petroleum and natural gas facilities would be subject to a “waste emissions charge” starting in 2024. The amount of the charge increases from $900 per ton in 2024 to $1,500 per ton in 2026.

The Act also provides incentives for methane mitigation and monitoring. These include grants, rebates and loans of up to $1.55 billion. Certain exemptions from the fee may apply if the emitter otherwise complies with Environmental Protection Agency methane regulations.

Washington National Tax takeaways

The provisions outlined above are a major expansion of existing clean energy incentives in the tax code. Clean fuel producers should evaluate all potential credit opportunities and may need to model out different scenarios, such as whether it would be more beneficial to claim a nonrefundable clean fuels credit, sell the credit under the transferability provision or claim a section 45Q carbon capture direct payment.  Additionally, companies building facilities with new technologies or renewable fuel, such as SAF, may want to evaluate whether to apply and submit an application for an allocation of funding from the advanced energy project credit.

Additional guidance will be critical for taxpayers, specifically with respect to the proposed direct pay and transferability of credits, requirements governing apprenticeship hours; prevailing wages; domestic contents and the so-called “stacking rules” that limit the ability to claim multiple credits at one facility. 

It will be important for affected parties to identify areas of uncertainty and raise these issues as soon as possible with their tax advisor. The Treasury Department will be developing rules for implementation of these provisions over the next few months and will be considering comments from affected parties during the rulemaking process.  

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