The Internal Revenue Service has issued highly anticipated guidance in the form of Notice 2013-29, providing guidelines and a safe harbor to determine when the owner of a renewable electricity generation facility (wind, biomass, or other renewable generation sources) is considered to have “begun construction” on any such facility by the end of 2013, making such taxpayer eligible for the production tax credit under section 45 (PTC), or the investment tax credit under section 48 (ITC), for such facility once it is placed in service.
This guidance largely followed IRS’ guidance for a similar “begun construction” requirement in section 1603 of the American Recovery and Reinvestment Act of 2009 (ARRA).
Under current law there is no deadline for when such facility must ultimately be placed into service to qualify for the PTC or ITC, as long as the requirements for “having begun construction” are met, and, per this Notice, the taxpayer maintains continuous efforts towards completion of the facility.
As with ARRA Section 1603 guidance, the IRS provides two methods that a taxpayer can use to establish that construction of a qualified facility has begun by the end of 2013:
- Starting “physical work of a significant nature” and maintaining a continuous program of construction or
- A Safe Harbor, whereunder —
a. The taxpayer pays or incurs five per cent or more of the total (ultimate) cost of the facility; and
b. The taxpayer makes continuous efforts to advance towards completion of the facility.
Physical work of a significant nature
The guidance makes clear that both on-site work and off-site work, performed either by the taxpayer or by another person – under binding contract — may be considered as work of a significant nature. This includes on-site work such as the beginning of excavation for the foundation, the setting of anchor bolts in the ground, or the pouring of concrete pads of the foundation. It also includes off-site work by another entity but only if under written binding contract entered into before such work is performed, where the components manufactured are not held in the manufacturer’s inventory, and in cases where a manufacturer produces components for multiple facilities, using a reasonable method to associate individual components with particular facilities. Preliminary activities such as planning or designing, securing financing, obtaining permits, environmental studies, test drilling, excavation to change the contour of the land (as opposed to for footings and foundations), and removal of preexisting turbines and towers does not constitute physical work of a significant nature. A contract is considered binding only if it is enforceable under local law against the taxpayer (or a predecessor) and does not limit damages to a specific amount.
Units of property
Multiple facilities that are operated as part of a single project may be treated as a single facility (all eligible for the PTC or ITC based on “under construction” being satisfied). Treatment of multiple facilities as a single facility is determined based on a facts and circumstances test, depending on factors such as:
- ownership by a single legal entity;
- construction of the facilities on contiguous pieces of land;
- inclusion of the facilities in a common power purchase agreement(s);
- sharing a common intertie;
- sharing a common substation;
- inclusion in the same environmental or regulatory permits;
- construction of the facilities under the same master construction contract; and
- financing of the facilities under the same loan agreement.
Property integral to the facility
Only physical work on property integral to the renewable electricity generation by the facility will be considered for purposes of determining whether the taxpayer has begun construction on the facility. Thus, work on a transmission tower will not be so considered, but roads that are integral to operating and maintaining the facility, or supplying feedstock to the facility, will be considered. Fencing and buildings would not generally be considered as integral to the facility but structures that are essentially machinery, or that house property integral to the facility’s operation may be considered as integral to the facility.
A continuous program of construction must involve continuous physical work of a significant nature. The IRS Notice, however, allows that certain disruptions beyond the taxpayer’s control, such as severe weather, licensing and permitting delays, labor stoppages, presence of endangered species, financing delays of more than six month and supply shortages, will not be dispositive of “continuous construction.”
Five per cent safe harbor
As with the physical work criteria, to the taxpayer must make continuous efforts to advance toward completion of the facility in order to satisfy the five per cent safe harbor. This requirement – continuous efforts — did not exist with the five per cent safe harbor under the IRS’ section 1603 guidance. All costs properly included in the depreciable basis of the facility, outside of the cost of land and any property not integral to the facility (see above), is included in determining whether the five per cent safe harbor has been satisfied.
In determining costs counted toward the five per cent, costs incurred by third-party manufacturers/contractors under binding contract with the taxpayer are generally deemed incurred by the taxpayer when incurred by the third party.
Continuous efforts are demonstrated under a facts and circumstances test, including factors such as continued payments toward completion, entering into binding contracts for components or future work on the facility, obtaining permits, and performing physical work. As with the ‘physical work’ test, the same types of disruptions (see above) will not be considered dispositive of “continuous efforts.”
If the total ultimate cost of a project that consists of multiple facilities exceeds its anticipated cost such that the five per cent safe harbor is not met, the IRS Notice makes clear that the taxpayer may still claim the five per cent safe harbor with respect to some of the facilities in the project, to the extent the taxpayer has met the five per cent safe harbor for the cost of those facilities that are fewer than all the facilities in the project. Claiming the safe harbor on a portion of the project that is only comprised of one facility, however, is not allowed.
This guidance is quite favorable for wind developers in that it largely follows the guidance under section 1603 of ARRA, and allows for flexibility in meeting the 5 per cent safe harbor in the case of cost overruns, and in the continuous construction / continued efforts toward completion requirements.
Under applicable U.S. Treasury Regulations we are required to inform you that any advice contained in this entry or any attachment hereto is not intended or written to be used, and cannot be used, either (i) to avoid penalties imposed under the Internal Revenue Code, or (ii) for promoting, marketing, or recommending to another party any tax-related matter addressed herein.