Projects with the US government
Developers dealing with the US military and other federal agencies got help from the IRS.
Such developers often enter into energy savings performance contracts under which they agree to install solar systems or other energy efficiency improvements in exchange for a share of the savings the government realizes on its electricity bills.
Federal law allows US agencies to enter into energy savings performance contracts with terms of up to 25 years. An Office of Management and Budget memorandum requires title to the improvements to transfer to the government at the end of the contract.
This makes it hard for developers to claim tax benefits on the improvements. Tax credits and depreciation may only be claimed by the tax owner. US tax rules normally treat a customer who will become the owner of equipment when the contract ends as the owner from inception.
The IRS issued a “safe harbor,” or set of guidelines, in late January, at the urging of the solar industry, for energy savings performance contracts with federal agencies that, if followed, will insulate such contracts from challenge by the IRS.
The guidelines are in Revenue Procedure 2017-19.
To fit in the guidelines, the contact cannot have a term longer than 20 years. A developer who has already signed a longer-term contract for a project that is not yet in service should try to amend it to shorten the contract term.
The federal agency cannot operate the equipment.
The agency should not be required to pay for services it does not receive, except during temporary shutdowns for maintenance or for making repairs or capital improvements.
The agency should not share in the developer’s profits. Thus, for example, the contract price should not be adjusted to pass through savings in operating costs.
The agency can have an option to purchase the project, or even be required to purchase it, as long as the price is fair market value determined at time of purchase. Fair market value means a price the parties negotiate at time of purchase or, failing agreement, an appraiser determines. It is not the price at which the asset is recorded on the developer’s books.
The guidelines provide an example of a transaction that works. In it, the federal agency will purchase the project at the end of the contract term for fair market value determined at time of purchase, and the developer will transfer part of the payments it receives from the federal agency during the contract term into a reserve account to credit against the future purchase price. The agency will make two periodic payments under the contract: one for electricity and the other to put in the reserve account.
The reserve account payments are set to try to equal the expected fair market value by the time of purchase. There may be periodic reappraisals and adjustments in the reserve account payments during the contract term. Any funds remaining in the reserve account after the purchase will returned to the federal agency.
The contract in the example has a schedule showing the termination values the agency will have to pay if it terminates the arrangement before the end of the contract term. The amounts vary over time.
The guidelines apply to contracts for alternative energy facilities, meaning generating equipment that does not run on oil, gas, coal or nuclear fuel. Thus, they do not apply to fuel cells.
They apply to contracts entered into on or after February 13, 2017. However, the IRS said it will not challenge contracts entered into earlier that have the required contract terms.