Yesterday, the IRS issued Notice 2016-31 (the “Notice”) which revises previous guidance on satisfying the “beginning of construction” test in order to take advantage of the section 45 renewable electricity production tax credit (PTC) for wind and other renewable energy facilities including geothermal, biomass, landfill gas and certain hydropower and marine hydrokinetic energy projects. The Notice is in response to the recent 5-year extension (with phasedowns) of the PTC for wind projects that begin construction before January 1, 2020, which we discussed in prior blog posts here and here.
In order to establish that construction has begun, the IRS issued a series of notices (2013-29, 2013-60, 2014-46, and 2015-25) which permit a taxpayer to show either that it has: (1) begun physical construction of a significant nature (“Physical Work Test”), or (2) incurred at least 5% of the total cost of the eligible facility (“5% Safe Harbor”). Both tests also require that the taxpayer make continuous progress towards completion once construction has begun or costs have been incurred (the Continuous Construction Test in the case of the Physical Work Test and the Continuous Efforts Test in the case of the 5% Safe Harbor). However, the IRS grants a safe harbor that so long as the taxpayer (1) “begins construction” on the facility prior to January 1, 2015, and (2) places that facility in service prior to January 1, 2017, the facility will be deemed to satisfy the Continuous Construction Test or the Continuous Efforts Test, regardless of the actual amount of physical work performed or costs paid or incurred through December 31, 2016 (“Continuity Safe Harbor”). (For more information on the Physical Work Test, 5% Safe Harbor, and Continuity Safe Harbor see our prior blog posts here, here, here, and here.)
In response to the multi-year extension of the PTC, the Notice extends the Continuity Safe Harbor provided that a taxpayer places the facility in service by the end of the calendar year that includes the fourth anniversary of the date construction of the facility began. For example, if construction begins on January 15, 2016 and the facility is placed in service by December 31, 2020, the facility will fall under the Continuity Safe Harbor.
The Notice makes clear that taxpayers cannot game the system by relying on the Physical Work Test and the 5% Safe Harbor in alternating years. For example, if a taxpayer performs physical work of a significant nature on the facility in 2015, and then subsequently incurs 5% of the total costs of the facility in 2016, the clock on the Continuity Safe Harbor starts running in 2015, not 2016.
The Notice also provides additional clarification regarding disaggregating multiple facilities included in a single project (e.g., individual wind turbines) that begin construction at different times for purposes of showing which facilities fall under the Continuity Safe Harbor and which facilities must be evaluated under the facts and circumstances to determine whether they meet the Continuous Construction or Continuous Efforts Tests. This is important because it ensures that those facilities within a single project that fall within the Continuity Safe Harbor will be able to take advantage of the PTC. Finally, the Notice clarifies that a facility may still be originally placed in service by the taxpayer for purposes of the PTC even if it includes some used property, provided that the fair market value of the used property is not more than 20% of the facility’s total value. In the case of a single project with multiple facilities, each facility is examined individually to determine whether it is comprised of more than 20% used property. Construction of existing facilities retrofitted with new components will be deemed to have commenced in the year that the taxpayer has incurred at least 5% of the costs of the qualified expenditures.
*The IRS states in the Notice that it anticipates issuing separate guidance addressing the extension of the section 48 investment tax credit (ITC) for solar energy facilities. Stay tuned to our blog for analysis of that guidance.