Transfers of Clean Energy Tax Credits – Introduction
On April 25, 2024, the Internal Revenue Service (IRS) and the Treasury Department issued final regulations (the Final Regulations) for energy tax credit transfers under Section 6418 of the Internal Revenue Code (the Code).
Section 6418, introduced as part of the Inflation Reduction Act of 2022 (the IRA), allows eligible taxpayers to transfer certain clean energy tax credits to unrelated taxpayers for cash, creating a marketplace for these tax credit transfers and spurring investment in the energy sector.
Background
Before the IRA, clean energy tax credits could only be used by taxpayers who owned the underlying clean energy projects, often involving complex tax equity structures typically accessible to large-scale projects and financial institutions.
The IRA addressed concerns about the sufficiency of the tax equity market to support clean energy adoption by introducing the transferability of clean energy credits, thus creating a broader market for these credits.
Overview of Section 6418
Eligible Taxpayers
Any taxpayer that is not a tax-exempt organization, state, political subdivision, Indian Tribal government, Alaska Native Corporation, rural electricity cooperative, or the Tennessee Valley Authority. These entities can benefit from the direct pay mechanism under Section 6417.
Transfer Mechanics
- An eligible taxpayer (transferor) can transfer all or part of an eligible credit to an unrelated taxpayer (transferee) for cash.
- The transferee is treated as the taxpayer for U.S. federal income tax purposes, utilizing the transferred credit to offset its own tax liability.
- The consideration paid for the tax credit by the transferee is not included in the transferor’s gross income and is not deductible by the transferee.
- Transfer elections are irrevocable, and a credit can only be transferred once.
Eligible Tax Credits
Eleven tax credits are eligible for transfer under Section 6418, including:
- Alternative fuel vehicle refueling property
- Renewable electricity production (Production Tax Credit)
- Carbon oxide sequestration
- Zero-emission nuclear power production
- Clean hydrogen production
- Advanced manufacturing production
- Clean electricity production
- Clean fuel production
- Energy investment (Investment Tax Credit)
- Qualifying advanced energy projects
- Clean electricity investment
Summary of the Final Regulations
The Final Regulations, which follow proposed regulations issued on June 14, 2023, adopt rules for making transfer elections with additional clarifications:
General Rules and Definitions
- Partnerships with tax-exempt partners can make transfer elections.
- Energy storage technology is eligible credit property.
- No secondary transfers of eligible credits are allowed.
- Cash payments for credits cannot be made in advance.
- Transferors may transfer to multiple transferees.
- Grantor trusts can make transfer elections.
- No transfer election is allowed if eligible credits are not determined with respect to the taxpayer.
- Transfer elections must be made on the original tax return for the year the credit is determined.
Rules for Transferees and Transferors
- Additional clarity is provided for 52-53-week taxable years.
- Passive credit rules apply to transferred credits.
- Transferees may take tax credits into account when calculating estimated tax payments.
- Special rules apply for partnerships and S corporations, including the allocation of tax-exempt income.
Special Rules
- Tax credit recapture risk is borne by the transferee.
- No relief for ineffective transfer elections.
- Specific provisions for REITs (Real Estate Investment Trusts).
Transfers of Clean Energy Tax Credits – Conclusion
Section 6418 became effective for taxable years beginning after December 31, 2022, and the Final Regulations take effect from July 1, 2024.
These regulations provide additional certainty for taxpayers as the market for clean energy tax credit transfers grows. Congress is closely monitoring the performance of this new mechanism, which, if successful, could potentially expand to include other tax credits.
Final thoughts
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