Several Key Tax Incentives

Several Key Tax Incentives

January 01, 2007

Several key tax incentives were extended by Congress in December.

Congress gave developers of renewable energy projects another year to qualify for production tax credits. The credits in 2006 were 1.9¢ a kilowatt hour for generating electricity from wind and geothermal steam or fluid and 1¢ a kWh for generating electricity from biomass, landfill gas or municipal solid waste or from turbines added to an existing dam. They run for 10 years after a project is put in service. The amount is adjusted each year for inflation. The credits are worth about 33¢ per dollar of capital cost in a typical wind farm in present-value terms. The deadline had been December 2007 to place projects in service. The new deadline is December 2008.

Congress also pushed back the deadline to put commercial solar projects and fuel cells in service and qualify for a 30% investment tax credit. The investment credit is claimed entirely in the year the project is put in service. The deadline to qualify is now December 2008. Solar projects completed after that date still qualify for an investment credit, but the amount drops to 10%. The investment credit can be claimed not only on solar electricity projects, but also equipment that uses sunlight to supply hot water. The tax credit allowed on fuel cells is limited to $500 per kilowatt of capacity. There is no credit for fuel cells installed after 2008.

Congress authorized another $400 million in “clean renewable energy bonds.”These are bonds that state and local governments, electric cooperatives and Indian tribes can use to borrow money for a wind farm, solar project, biomass or geothermal power plant or other project that, if it were privately owned, would qualify for production tax credits. The bonds do not require any interest payments. Rather, the lender can claim tax credits each year tied to the outstanding principal amount of the loan.

Congress authorized $800 million in such bonds in the Energy Policy Act in August 2005. Anyone wanting to use the bonds to finance a project had to apply to the Internal Revenue Service for an allocation by last April. The IRS allocated all the available bond authority in late November. The government received 709 applications asking for a total of $2.6 billion in bond authority. A total of 610 awards were made. Of the awards, 434 were for solar projects. The largest single award was $33 million to an electric cooperative. The largest amount awarded for a municipal project was $3.2 million. The latest Congressional action will open the door for another round of allocations in 2007.

E85 — a vehicle fuel that is 85% ethanol — is subject to federal excise tax when sold at a reduced rate of 13.25¢ a gallon. The special rate was scheduled to expire on September 30, 2007. Congress extended it through December 2008. It also extended a special rate of 12.35¢ a gallon for vehicle fuel that is at least 85% methanol or alcohol made from coal.

Most ethanol in the United States is made currently from corn. Many people expect the next wave of ethanol plants to use cellulosic material like bagasse, corn stalks and switchgrass. The Energy Policy Act in 2005 let anyone investing in a “refinery” to make liquid transportation fuels deduct 50% of the cost immediately when the plant is put into service. (The other 50% of the cost is recovered over time as depreciation.) There had been some uncertainty about whether the 50% deduction could be claimed on ethanol plants that mash corn into alcohol. Congress suggested in December that it can only be claimed on ethanol and biodiesel plants that turn corn or other biomass “via gas” into liquid fuel. However, it let the 50% deduction be claimed on plants that make cellulosic ethanol, regardless of the process. A cellulosic plant must be put in service by 2012 to qualify.

Owners of batteries that make coke or coke gas — for example,at steel mills — can claim tax credits of $1.17 an mmBtu on the coke or coke gas they sell to third parties. The credits can be claimed on four years of output.The coke battery must be put in service by 2009. (The credits used to be called “section 29 credits” by were renumbered section 45K in August 2005.) Credits of this sort are liable of being phased out if oil prices return to levels reached during the Arab oil embargo in the 1970’s. In December,Congress voted to free coke and coke gas projects from any risk of a phase out. However, it also made clear that only steel coke qualifies for the credits — not petroleum coke.The credits are capped at $23,200 a day per coke facility.

Projects built on Indian reservations qualify for faster depreciation. For example, a wind farm can be depreciated over three rather than five years. The deadline to place projects in service to qualify had been December 2005. It has now been extended to December 2007.A wage credit for hiring Indians to work in jobs on the reservation was also extended for wages paid or incurred through December 2007.

Finally,Congress authorized the US Treasury Department to allocate another $3.5 billion in “new markets tax credits”in 2008.The credits had been expected to be fully allocated with the 2007 round of credits. New markets credits are tax credits that are supposed to induce equity investors to invest money in storefront lenders — called community development entities, or CDEs — to businesses in low-income areas. Each investor receives a tax credit for 39% of his equity investment. The credit is spread over seven years. Some larger financial players have organized CDEs for making loans and applied to the Treasury for tax credit allocations.The government allocated $2 billion in credits in each of 2004 and 2005 and $3.5 billion in 2006.

Another $3.9 billion will be allocated in 2007 and $3.5 billion in 2008. (The $3.9 billion for 2007 includes $400 million in credits for projects in the Gulf states hit by Hurricane Katrina.) Applications for 2007 allocations must be submitted by February 28.


Keith Martin