What is an “Energy Community” – IRS Provides Guidance on Key Aspect of the Inflation Reduction Act
The Inflation Reduction Act (IRA) has been called the most aggressive climate investment ever undertaken by the U.S. Congress. With approximately $370 billion dollars in funding over the next 10 years, it is projected that the IRA will reduce U.S. carbon emissions by roughly 40% by 2030.
While the potential beneficiaries of the law are countless, the IRA contains provisions that will direct the benefits of the renewable energy transition to particular communities. That direction is important because the net-zero transition will disproportionately impact regions that are or have historically been heavily dependent on the extraction, processing, and/or concentrated use of fossil fuels. The IRA targets these particular regions, called “energy communities”, by providing additional incentives to developers to construct renewable energy projects in these communities. This incentive provides a 2% energy community bonus that increases the base investment tax credit (ITC) amount or the production tax credit (PTC) rate for qualifying projects. However, for projects that meet certain prevailing wage and apprenticeship requirements, the energy community bonus is increased to a 10% bonus.
On April 4, 2023, the Treasury Department (Treasury) and the Internal Revenue Service (IRS) issued Notice 2023-29 (Notice) to provide additional guidance on the energy community bonus tax credits. The guidance answers questions about what constitutes an energy community and how to prove a project qualifies for the energy community bonus tax credit once an eligible credit is claimed.
Three categories of “energy communities” established under the IRA
Generally, under the IRA, an “energy community” is a location that falls into one of three categories:
- Brownfield Category – Any “brownfield site” as defined in certain subparagraphs of the Comprehensive Environmental Response, Compensation, and Liability Act of 1980 (CERCLA);
- Statistical Area Category – A metropolitan statistical area (MSA) or a non-metropolitan statistical area (non-MSA) that:
- Has an unemployment rate at or above the national average for the previous year (as determined by the Secretary of the Treasury), and
- Either has
- 0.17% or greater direct employment related to the extraction, processing, transport, or storage of coal, oil, or natural gas (as determined by the Secretary) (defined in the Notice as the “Fossil Fuel Employment” threshold), or
- 25% or greater local tax revenues related to the extraction, processing, transport, or storage of coal, oil, or natural gas (as determined by the Secretary) (defined in the Notice as the “Fossil Fuel Tax Revenue” threshold); and
- Coal Closure Category – A census tract (or a directly adjoining census tract) where a coal mine closed after 1999 or a coal-fired electric generating unit was retired after 2009.
The provisions in the IRA regarding energy communities are viewed as a significant tool for incentivizing renewable energy investment in communities that historically relied on fossil fuel-related industries. Although targeting these communities is a laudable and critical goal in the net-zero energy transition, after the passage of the IRA, many questions remained regarding what constitutes an energy community and the process for determining whether a qualifying PTC or ITC project is located in an energy community.
The Notice provides additional guidance on what constitutes an energy community
The Notice helps provide much-needed guidance regarding what areas qualify as energy communities. In particular, the IRS issued the following:
- For the Statistical Area Category, a table showing in which MSA or non-MSA each county falls. See: https://www.irs.gov/pub/irs-drop/n-23-29-appendix-a.pdf.
- For the Statistical Manitowoc County area. See: https://energybankinc.com/wp-content/uploads/2023/07/n-23-29-appendix-a-115.pdf
- For the Statistical Area Category, a table showing which counties had at least 0.17% direct employment tied to oil, gas or coal at any time after 2009. See: https://www.irs.gov/pub/irs-drop/n-23-29-appendix-b.pdf In addition, the IRS released a mapping tool to assist with this determination. See: https://arcgis.netl.doe.gov/portal/apps/experiencebuilder/experience/?id=a2ce47d4721a477a8701bd0e08495e1d
- For the Coal Closure Category, a list of census tracts and directly adjoining tracts that the IRS believes qualify as Coal Closure sites. See: https://www.irs.gov/pub/irs-drop/n-23-29-appendix-c.pdf
Further, the Notice provided additional guidance on what may constitute a “brownfield” beyond a simple reiteration of the definition under CERCLA. The Notice creates a safe harbor under which land can automatically qualify as a brownfield if:
- the site was previously assessed as a brownfield site through federal, state, territory, or Indian tribal programs (e.g., a site on the Brownfields Properties list on EPA’s Cleanups in My Community webpage or on similar webpages);
- a phase II environmental site assessment has confirmed the presence of a pollutant, contaminant, or hazardous substance; or
- for projects with a nameplate capacity of less than 5MW (AC), a phase I environmental site assessment has been completed
It is important to note that a brownfield site does not include properties expressly excluded from the statutory definition of a brownfield site under CERCLA, and such excluded properties do not qualify for the safe harbor.
The Notice clarifies when an “energy community” determination is made for establishing entitlement to the bonus credit
Furthermore, the Notice provides a “beginning of construction” (BOC) safe harbor that clarifies the timing aspect of when a project can be considered located within an energy community. Generally, for PTC-qualifying projects, whether the project is within an energy community would be determined separately for each taxable year of the facility’s 10-year credit period. Also, for ITC projects, whether an energy property is located in an energy community would typically be determined by the qualification on the project location as of the placed-in-service date. However, under the BOC safe harbor, a site will be treated as an energy community as of the BOC date for the duration of the 10-year credit period for PTC projects or the placed-in-service date for ITC projects.
The BOC safe harbor is especially helpful for a PTC qualifying project that is relying on the Statistical Area Category, which otherwise is based on the unemployment rate in the prior year. Without the BOC safe harbor, the fluctuation of the unemployment rate each year during the 10-year credit period could result in a project potentially losing the full value of the energy community bonus because an area no longer falls within the Statistical Area Category.
Other Energy Incentives
They can claim a tax deduction for a percentage of the cost of the asset (under IRC §168(k) known as bonus depreciation), or they can claim a deduction for a certain dollar amount of the cost of the asset (IRC §179). Accordingly, taxpayers have the ability to choose whatever works the best for it.