The U.S. Department of the Treasury and IRS recently issued final
regulations regarding carbon capture tax credits under section 45Q of the
Internal Revenue Code, which amend and clarify the proposed regulations
issued last year.
For a description of the proposed regulations, see McGuireWoods’ June 2020
alert, “IRS Proposes Regulations for Carbon Capture Tax Credit.
” The IRS also issued other guidance with respect to the carbon capture tax
credits in 2020. For an overview of Notice 2020-12 (the begin construction
notice) and Revenue Procedure 2020-12 (flip safe harbor), see McGuireWoods’
February 2020 alert, “IRS Provides Carbon Capture Tax Credit Guidance and Safe Harbor.”
The Section 45Q credit is available for each metric ton of qualified carbon
oxide that is captured using carbon capture equipment at a qualified
facility and then used in commercial product (utilization), used as a
tertiary injection in a qualified enhanced oil or natural gas recovery
project (injection), or disposed of through secure geological formation
(disposal). The amount of the tax credit increased in 2018 for projects
placed in service on or after Feb. 9, 2018. The newly increased credit will
reach $35 per metric ton when the captured carbon is injected or utilized
and will reach $50 per metric ton when the captured carbon is disposed of
in a secure geological formation. Those maximum credit amounts will apply
to credits generated in tax years after 2026.
In the case of carbon capture equipment originally placed in service at a
qualified facility on or after Feb. 9, 2018, the credit is available during
the 12-year period beginning on the date the carbon capture equipment is
placed in service, and such credit is generally available to the person who
owns the carbon capture equipment and physically or contractually ensures
the capture and disposal, injection or utilization of such carbon oxide.
The construction of the facility that includes the carbon capture equipment
must begin by the end of 2025 to qualify for the credits. The 2021
Consolidated Appropriations Act extended the original Dec. 31, 2023,
beginning-of-construction deadline for qualified facilities and carbon
capture equipment to Dec. 31, 2025.
The final regulations make a number of important clarifications and
technical changes, including the following:
The proposed regulations included a five-year recapture period. The
final regulations shortened the recapture period to three years because
the three-year period sufficiently accounts for the risk of leakage and
reduces the compliance burden that would be imposed by a five-year
Definition of Carbon Capture Equipment.
The definition of “carbon capture equipment” in the proposed
regulations included an expansive list of “qualifying carbon capture
components” that would be considered carbon capture equipment and a
list of “excluded components” that would not. The final regulations
removed these lists in favor of a function-based definition. The final
regulations provide that “carbon capture equipment” generally includes
all components of property that are used to capture or process carbon
oxide until the carbon oxide is transported for disposal, injection or
utilization. The final regulations provide that carbon capture
equipment generally does not include components of property used for
transporting qualified carbon oxide for disposal, injection or
utilization. However, the final regulations provide that carbon capture
equipment includes a system of gathering and distribution lines that
collect carbon oxide captured from a qualified facility or multiple
qualified facilities that constitute a single project.
Definition of Commercial Market for Utilization.
The carbon capture credit applies to carbon oxide that is “utilized” in
certain situations, including for “any other purpose for which a
commercial market exists.” The proposed regulations did not define
“commercial market.” The final regulations define existing commercial
market broadly as a market in which a product, process or service that
utilizes carbon oxide is sold or transacted on commercial terms.
Binding Written Contract.
The proposed regulations set forth certain contract provisions
necessary for a contract ensuring the capture and disposal, injection
or utilization of qualified carbon oxide to qualify as a “binding
written contract.” The final regulations adopted the definition of
“binding written contract” set forth in the Notice 2020-12 and in
Treasury Regulation Section 1.168(k)-1(b)(4)(ii)(A)-(D).
Transferability of Carbon Capture Credit.
The proposed regulations provided guidance regarding who may make an
election under section 45Q(f)(3)(B) to allow a third-party taxpayer
that disposes, utilizes or injects the qualified carbon oxide to claim
the credit. The final regulations clarify that the disposer, injector
or utilizer that enters into the contract with the electing taxpayer
for the disposal, injection or utilization of the electing taxpayer’s
qualified carbon oxide is the party that may qualify as a credit
claimant. If that disposer, injector or utilizer subcontracts with a
third party, the subcontractor may not be a credit claimant.
Amount of Carbon Oxide Utilized. The final regulations measure the amount of carbon oxide utilized by
aggregating the full greenhouse gas life cycle (LCA). This includes all
stages of product and feedstock production and distribution, from
feedstock generation or extraction through the distribution and
delivery of the finished product to the ultimate consumer. The taxpayer
verifies the amount of qualified carbon oxide utilized through an LCA.
The LCA report must be prepared in conformity with International
Organization for Standardization (ISO) 14040:2006, Environmental
management — Life cycle assessment — Requirements and guidelines.
Aggregation of Multiple Facilities.
The final regulations permit taxpayers to aggregate multiple carbon
capture facilities to satisfy the minimum carbon oxide capture
thresholds under aggregation rules similar to those in Notice 2020-12.
The final regulations provide additional clarity to developers and
investors, which should spur investment in carbon capture projects.
McGuireWoods lawyers are experienced in energy, project finance and tax
equity structures. Do not hesitate to reach out and discuss any of the