The U.S. Department of Treasury and the U.S. Department of Energy yesterday jointly announced the issuance of guidance regarding the federal income tax treatment of Smart Grid Investment Grant payments received pursuant to the American Recovery and Reinvestment Act (ARRA). Smart Grid Investment Grants represent the largest single investment in grid modernization in U.S. history, and one of the largest energy sector investments established by ARRA. The U.S. Department of Energy reviewed applications and awarded $3.4 billion in grant funding to applicants whose projects would stimulate the rapid deployment of advanced technology to establish and enable a modernized transmission system throughout the U.S. The large award recipients were predominately utilities with projects involving smart meters, grid modernization, peak demand reduction and two-way communication technologies.

The guidance, which was issued as Revenue Procedure 2010-20, creates a safe harbor for corporations that receive certain types of Smart Grid Investment Grants. The guidance provides that the Internal Revenue Service will not challenge a corporation's treatment of a specified grant as a nontaxable contribution to capital by a nonshareholder. This generally means that a corporation receiving a specified grant will not recognize taxable income upon receipt of the grant, but will be required to reduce the tax basis of its assets by the amount of the grant.

The guidance does not address the federal income tax treatment of Smart Grid Investment Grants to noncorporate recipients. In addition, the guidance does not apply to grants for Smart Grid technology, research, development and demonstration. The guidance is very helpful for corporations that receive specified grants. Treatment of grants as nontaxable contributions to capital will, however, raise interesting accounting issues, especially for regulated utilities.