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IRS Releases Guidance on “Beginning of Construction” for PTC and ITC PurposesApril 17, 2013
On April 15, 2013, the Internal Revenue Service (the “IRS”) made available Notice 2013-29 (the “Notice”), providing awaited guidance on determining the “beginning of construction” with respect to a facility's qualification for the production tax credit (the “PTC”) under section 45 of the Internal Revenue Code of 1986, as amended (the “Code”), and the investment tax credit (the “ITC”) under section 48 of the Code. The Notice provides two methods that a taxpayer may use to satisfy the PTC and ITC requirement that construction of an eligible facility begins prior to January 1, 2014: (i) by starting physical work of a significant nature or (ii) by meeting a cost paid or incurred safe harbor (the “Safe Harbor”) set forth in the Notice. The Notice specifies that a taxpayer need only satisfy one method in order to meet the statutory beginning of construction requirement.
The PTC allows taxpayers to claim a credit for electricity produced by the taxpayer from certain qualified wind, open-loop and closed-loop biomass, geothermal, landfill gas, trash, hydropower, and marine and hydrokinetic facilities. Alternatively, a taxpayer generally may elect instead to claim the ITC equal to 30% of the qualified facility's basis in lieu of the PTC with respect to eligible energy property. Prior to the enactment of the American Taxpayer Relief Act of 2012 (the “ATRA”), a qualified facility was defined as a facility used to produce electricity from eligible resources that was “placed in service” prior to January 1, 2014 (January 1, 2013 in the case of wind facilities). The ATRA revised this requirement such that a facility, including a wind facility, can qualify under these provisions if construction of the facility begins prior to January 1, 2014.
The modification from a “placed in service” to a “commencement of construction” standard was widely viewed as highly beneficial to renewable energy developers and investors because the standard allows more projects to qualify for the PTC and ITC. However, developers and investors have awaited guidance from the IRS on the precise manner in which taxpayers can satisfy this requirement. The two methods of satisfying this requirement that are set forth in the Notice are similar in many respects to the methods set forth by the U.S. Treasury Department in administering the grant program under section 1603 of the American Recovery and Reinvestment Act of 2009 (the “Treasury Grant Program”). The two methods provided by the IRS in the Notice generally represent an added degree of certainty with respect to the manner in which taxpayers may satisfy the PTC and ITC beginning of construction requirement.
Physical Work of a Significant Nature
The first method that a taxpayer may use to establish the beginning of construction of a facility is starting physical work of a significant nature. The Notice provides that the satisfaction of this method depends on a facts and circumstances analysis. Work performed by the taxpayer and work performed for the taxpayer under a binding written contract that is entered into prior to the manufacture, the construction, or the production of applicable property for use by the taxpayer is included in the determination of whether construction has begun. The Notice provides, generally, that a binding written contract is a contract that is enforceable against the taxpayer under applicable local law and that does not limit damages to a specified amount. The Notice further provides that if a taxpayer enters into a binding written contract for a specific number of components (a master contract) and then assigns its right to certain such components to an affiliate under a new binding written contract (a project contract), the work performed under the master contract may be included in determining whether physical work of a significant nature has begun with respect to the affiliate.
The Notice further states that the IRS will closely scrutinize a taxpayer that does not maintain a “continuous program of construction.” The Notice provides that whether a taxpayer has maintained a continuous program of construction is based on a facts and circumstances analysis, but certain disruptions that are beyond the control of the taxpayer (e.g., severe weather conditions, natural disasters, licensing and permitting delays, and supply shortages) will not be deemed to indicate that the taxpayer has failed to meet this standard.
In determining whether physical work of a significant nature has started, the IRS will take into account both on-site and off-site work. The Notice provides, by way of example, that, in the case of a wind facility, physical work of a significant nature begins with the excavation for the foundation, the setting of anchor bolts into the ground, or the pouring of the concrete pads into the foundation. Likewise, physical work of a significant nature may begin off-site when the manufacture of the turbine components begins, provided that, if performed by a manufacturer for the taxpayer, the work is done pursuant to a binding written contract and the components are not held in the manufacturer's inventory.
In addition, the Notice restates the pre-existing concept that a facility, for purposes of the PTC and ITC, generally includes all components of property that are functionally interdependent. For example, each wind turbine in a wind farm generally is deemed to be a single facility for these purposes. However, the Notice goes further by stating that, solely for purposes of determining whether construction of a facility has begun, multiple facilities that operate as a single project will be treated as a single facility. The determination of whether multiple facilities operate as a single project is based on a facts and circumstances analysis. This rule is significant because a taxpayer may be treated as having begun physical work of a significant nature with respect to a number of facilities that are deemed to operate as a single project by beginning physical work of a significant nature with respect to a number of the individual facilities that comprise that project. For instance, the Notice provides an example whereby a taxpayer that excavates the foundation sites and pours concrete for the supporting pads in respect of 10 wind turbines (out of a planned 50 wind turbines in a wind project) will be treated as having performed physical work of a significant nature in respect of the entire project (i.e., all 50 wind turbines).
Finally, the Notice states that only physical work of a significant nature on tangible personal property and other tangible property used as an “integral part” of the activity performed by the facility will be considered in determining whether this method is satisfied. For instance, roads may be integral to a facility if they are used for moving materials to be processed or for moving equipment to operate and maintain the facility. However, roads primarily for access to the site or for employee vehicles generally will not be considered integral to the activity performed by the facility. The IRS specifies that this definition contemplates property integral to the production of electricity, but not property used for electrical transmission.
The Safe Harbor
The second method that a taxpayer may use to establish the beginning of construction of a facility is to meet the requirements of the Safe Harbor set forth in the Notice. A taxpayer generally may satisfy the Safe Harbor requirements if (i) a taxpayer pays or incurs 5% or more of the total cost of the facility before January 1, 2014 and (ii) thereafter, the taxpayer makes a continuous effort to advance towards the completion of the facility.
For purposes of the first Safe Harbor requirement, all costs included in the depreciable basis are factored into the determination of whether 5% of the total costs of the facility have been paid or incurred before January 1, 2014. The Notice specifies that the total cost of a facility does not include the cost of land or any property that is not integral to the facility. In addition, costs incurred with respect to property manufactured, constructed, or produced for the taxpayer by another person under a binding written contract may be deemed incurred by the taxpayer when the costs are incurred by such other person under general Code principles.
In this context, if the total cost of a single project comprised of multiple facilities (as described above) exceeds the expected costs such that the taxpayer fails to meet the 5% of costs paid or incurred prior to January 1, 2014 requirement, the Safe Harbor will not be fully satisfied. However, the Notice provides that the Safe Harbor may be deemed satisfied with respect to some, but not all, of the individual facilities, provided that the aggregate cost of such individual facilities is not more than twenty times greater than the costs paid or incurred by the taxpayer prior to January 1, 2014. If a single facility fails to meet this requirement and is not part of a single project comprised of multiple facilities for this purpose, the Safe Harbor cannot be satisfied with respect to any portion of the facility.
Whether a taxpayer satisfies the second Safe Harbor requirement by making continuous efforts to advance towards the completion of the facility will be based on a facts and circumstances analysis. The Notice provides that facts indicating that a taxpayer meets this requirement include (but are not limited to) (i) paying or incurring additional amounts included in the total costs of the facility, (ii) entering into binding written contracts for components or future facility construction work, (iii) obtaining necessary permits, and (iv) performing physical work of a significant nature. Furthermore, certain disruptions beyond the taxpayer's control (such as those described above in the context of a continuous program of construction) are not considered to indicate that a taxpayer has failed to meet this requirement.
The methods adopted by the IRS for satisfying the PTC and ITC beginning of construction requirements provide taxpayers with greater certainty and a degree of flexibility in demonstrating that construction of a facility has begun within the statutory timeframe (i.e., prior to January 1, 2014). Furthermore, by adopting methods that are, in many respects, similar to those provided in connection with the Treasury Grant Program, the IRS has provided a standard with which many developers, investors and practitioners have an existing familiarity. Thus, the Notice provides timely and generally welcome guidance on this important issue.
 Pub. L. No. 112-240.
 Pub. L. No. 111-5.
 The Notice states that physical work of a significant nature does not include work performed by the taxpayer or by another person under a binding written contract to produce property that is existing in inventory or that is normally held in inventory by a vendor.
 The Notice provides that relevant factors include (but are not limited to) whether (i) the facilities are owned by a single legal entity, (ii) the facilities are constructed on contiguous pieces of land, (iii) the facilities are described in a common power purchase agreement or agreements, (iv) the facilities have a common inertie, (v) the facilities share a common substation, (vi) the facilities are described in one or more common environmental or other regulatory permits, (vii) the facilities were constructed pursuant to a single master construction contract, and (viii) the construction of the facilities was financed pursuant to the same loan agreement.
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