A wind farm that was financed in part with a low-interest loan from the federal Rural Utilities Service did not benefit from “subsidized energy financing,” the IRS said.

The owner of a US wind farm can claim production tax credits of 2.1¢ a kilowatt hour on the electricity generated in the first 10 years after the wind farm is put into service. However, if any part of the project cost is paid with government grants, tax-exempt bonds, “subsidized energy financing” or help from other federal tax credits, then the production tax credits must be reduced commensurately. The maximum reduction is 50%.

“Subsidized energy financing” is financing from a government program that has as a principal focus helping energy projects. However, the financing must be at subsidized rates.

A regional electric cooperative that generated electricity and supplied it to other cooperatives that were its members in rural areas planned to build a wind farm. It formed a taxable subsidiary to own the wind farm. The subsidiary entered into a long-term contract to sell all the electricity to the regional cooperative for resale by the regional cooperative to other cooperatives that were its members under older wholesale power contracts that the regional cooperative originally signed with members during the period 1962 to 1965.

The taxable subsidiary planned to claim production tax credits on the electricity.

There were three potential impediments.

First, the subsidiary took out a low-interest loan from the federal Rural Utilities Service to pay the project cost. The IRS ruled privately that the low-interest loan will not cause a reduction in production tax credits after the cooperative assured the IRS that the interest rate was no lower than on any loan it could borrow from a bank with a federal loan guarantee. In view of this assurance, the IRS said the federal loan was not “subsidized.” Congress has said in the past that bare loan guarantees are not a problem.

Second, production tax credits can only be claimed on electricity sold to third parties. However, the IRS ruled publicly last summer that a sale to a related party is okay as long as it resells the electricity to someone unrelated. In this case, there were as many as two resales to get to someone unrelated. The IRS said that was okay.

Finally, production tax credits cannot be claimed on electricity from wind farms that is sold under power contracts signed before 1987 unless the power contracts are amended to limit the amount of electricity that can be sold at prices above the “avoided cost” of the utility buying the electricity. “Avoided cost” means the amount the utility would have spent to generate the electricity itself. The regional cooperative assured the IRS that all of the electricity would be sold to its rural coop members at prices that are at or below the avoided costs of the members. On that basis, the IRS said that no amendments were needed to the power contracts.

The IRS ruling is PLR 200845008. The agency made it public in November.

Keith Martin