The Internal Revenue Service (IRS) recently set forth a set of questions and answers about the federal income tax consequences related to the receipt of a Section 1603 grant in lieu of investment tax credits for renewable energy projects in Notice 2012-23. While none of the guidance provided in this notice is novel, the purpose is to confirm that the IRS will follow Section 1603 grant guidance with respect to the specific rules set forth in the grant program relating to the tax treatment of grant recipients and qualification of taxpayers for the grant. Additionally, the notice indicates that, where the grant program departs from the rules in the Internal Revenue Code and Treasury regulations on which the grant program is based, the IRS will continue to follow the Internal Revenue Code and Treasury regulations with respect to the same renewable energy projects. For example, computing tax depreciation and making placed in service determinations will follow the code and Treasury regulations.
The notice addresses the income tax consequences of the receipt of the grant and the taxpayer’s basis in the specified energy property. The notice states that the grant is not includible in the taxpayer’s gross income and the taxpayer’s basis in the specified energy property is reduced by 50 percent of the payment. This is clear from grant guidance and the notice only confirms that the grant is treated the same as an investment tax credit under Section 48 of the Internal Revenue Code.
The notice also addresses the income tax consequences to a taxpayer who receives both the grant and either a Department of Energy (DOE) loan guarantee or an energy conservation subsidy from a public utility. The notice confirms that receipt of a DOE loan guarantee does not reduce the taxpayer’s basis in its renewable energy project. With respect to energy conservation subsidies, the notice indicates that, under Section 136 of the Internal Revenue Code, an energy conservation subsidy provided by public utility might be excluded from income and therefore reduces the basis of specified energy property by the amount of the exclusion. This implies, as most tax practitioners understood, that energy conservation subsidies not expressly excluded from gross income statutorily are includible in income unless some other Internal Revenue Code exception applies. Referring specifically to a question and answer in the “Frequently Asked Questions” issued by the U.S. Department of the Treasury with respect to the grant, the notice confirmed that if an amount received is excluded from income, a corresponding basis reduction in the relevant property is warranted and, if no amount is excluded from income, then no reduction in basis is required.
The notice addresses whether Internal Revenue Code Section 168(h)(6) applies for purposes of determining the partnership’s depreciation deductions when a partnership that is eligible to receive a Section 1603 grant has as a partner a corporation that is a “tax-exempt controlled entity” (within the meaning of section 168[h][F]) meaning any corporation if 50 percent or more (in value) of the stock in such corporation is held by one or more tax-exempt entities (other than a foreign person or entity). Section 168(g) identifies certain types of properties that are subject to the longer Alternative Depreciation System (ADS) recovery periods including any “tax-exempt use property.” The notice reaffirms that section 168(h)(6) applies to any partnership that owns property and has a tax-exempt entity or a tax-exempt controlled entity as a partner even if the partnership is eligible for a Section 1603 grant. The notice suggests that if a tax-exempt controlled entity applies for a Section 1603 grant through a U.S. corporation, although the U.S. corporation is grant eligible, it will still be subject to ADS depreciation system. It is also important to note that a tax-exempt controlled entity would not be eligible for investment tax credits even though it is eligible for the grant.
The notice addresses how a taxpayer of multiple units of property who treats the multiple units as a single unit (grouping election) for determining the beginning of construction and the date the property is placed in service for grant purposes will be affected by the grouping election for tax deprecation purpose. The notice confirms that the taxpayer’s grouping election for grant purposes will not affect the determination of the unit of property for tax deprecation purposes or the date that property is placed in service for purposes of calculating the relevant depreciation deductions. This conclusion is not surprising as the grant rules on a grouping election departed from the federal tax rules on this point.
Lastly, the notice addresses the federal income tax consequences of a sale-leaseback transaction more than three months after the seller/lessee originally placed the project in service. The notice states that, under the sale-leaseback tax rules and Section 1603 grant rules, the purchaser/lessor is not eligible for the grant because the project was sold and leased back more than three months after the project was placed in service, and the purchaser/lessor may not elect to pass through the grant to the seller/lessee because the project was sold and leased back more than three months after the project was placed in service. Rather, the seller/lessee is the taxpayer placing the property in service and is therefore eligible for the grant. The notice provides that the seller/lessee must, as a result, reduce its basis in the project by 50 percent of the amount of the grant before determining gain or loss on the sale of the project to the purchaser/lessor. The seller/lessee is not required to report income equal to 50 percent of the amount of the grant ratably over the five-year recapture period. This portion of the notice provides federal tax certainty to the treatment of a sale-leaseback transaction where the seller/lessee does not sell and lease back the project within three months of the project being placed in service for tax purposes.