Owners of hydrogen pipelines and storage assets would abruptly be regulated under the Natural Gas Act and find themselves out of compliance
Senator Manchin recently released the text of his much anticipated and controversial bill aimed at reforming the federal permitting process, particularly for energy infrastructure (the "Energy Independence and Security Act of 2022"). In exchange for his support of the Inflation Reduction Act, Senator Manchin secured commitments from Senate Majority Leader Schumer that the proposed bill would be attached to the continuing resolution, which Congress must pass by September 30, to avoid a government shutdown.
Hidden among the other lightning rod issues in the bill is a short provision with serious implications for all industries that rely on industrial hydrogen, such as the refining, chemical, and fertilizer industries. Section 23 of the bill proposes to amend the Natural Gas Act (NGA) to redefine "natural gas," a definition that has remained the same since the bill was first passed in 1938, to include "hydrogen mixed or unmixed with natural gas." The purported intention is clear: to provide "regulatory certainty" for the rising hydrogen industry. But just how "certain" will this regulatory regime be when applied to hydrogen? Even more importantly, how will it apply to the existing hydrogen industry which is crucial to producing our fuels and growing our food?
The NGA imposes complex and far-reaching regulations across the entire natural gas industry and imposes numerous—non-discretionary—related duties upon the Federal Energy Regulatory Commission (FERC) in the administration of that statute. FERC has an extensive body of precedent (built upon the Federal Power Commission (FPC) before it) refining these extensive regulations. However, all of this precedent and experience is built around one single commodity: natural gas.
Senator Manchin's bill is supposed to streamline permitting. Whether it will succeed or merely add to the bureaucracy can and should be debated. However, what is clear is that by redefining natural gas to include hydrogen, the bill stands to undermine the hydrogen and other incentive provisions in the Inflation Reduction Act. This is especially troubling because Congress did not investigate the consequences of foisting the NGA upon the hydrogen arena. Earlier this month, the head of Venable's Energy Practice Group, Richard Powers, testified before the Senate Environment and Natural Resources committee about the unintended consequences of such an imprecise solution to the issue of hydrogen pipeline regulation. Now that a proposal has taken shape to regulate the hydrogen industry, below are only some of the pressing issues that current and aspiring hydrogen pipeline operators will face if this bill becomes a law. Overall, the NGA is not an ideal regulatory regime to impose on the established hydrogen industry or to foster the nascent, renewable one. Nevertheless, Venable's attorneys are ready to advise clients in navigating the potential pitfalls they are likely to soon face.
Scope of Jurisdiction: What Hydrogen is Covered
The first question FERC will face is to determine what hydrogen is covered. FERC and federal courts have extensive precedent applying NGA jurisdictional tests to traditional natural gas. Since hydrogen is not given its own definition but merely subsumed into the definition of natural gas, presumably the same analysis would apply. The NGA covers "the transportation of natural gas in interstate commerce, . . . the sale in interstate commerce of natural gas for resale for ultimate public consumption for domestic, commercial, industrial, or any other use, and . . . natural gas companies engaged in such transportation or sale." Under the NGA, natural gas pipelines are considered to provide transportation in interstate commerce if the pipeline crosses a state line or if the natural gas is commingled with any other gas already transported in interstate commerce.
There are some exceptions, but none appear to apply neatly to any existing or planned hydrogen operations. First, local distribution companies are exempt. The NGA also carves out gathering from FERC's jurisdiction. There is a narrow exemption for so-called "Hinshaw" pipelines if they can demonstrate that all "natural gas received by such person from another person within or at the boundary of a State . . . is ultimately consumed within such State." A crucial requirement of this exception is that the pipeline be subject to state regulation. Since very few states currently have clearly asserted regulatory authority over hydrogen pipelines, federal regulating of hydrogen under the NGA may be more pervasive than federal regulation of traditional natural gas itself.
There are already several hydrogen pipelines operating today that cross state lines. These would clearly be subject to all aspects of NGA regulation. However, there are many shorter pipelines throughout the country as well as related hydrogen storage assets. Because most hydrogen used today is made from natural gas, many of these assets are directly connected to interstate natural gas pipelines. That connection could imply that these hydrogen facilities are therefore transporting "natural gas" (which includes hydrogen under the bill) in interstate commerce. Although FERC may try to distinguish this precedent, FERC precedent holds that "in the absence of countervailing factors, pipeline facilities located downstream of a processing plant may be considered exempt from NGA regulation only when they are incidental extensions of the processing plant or of the behind-the-plant gathering system." These are usually short "stub" lines used to connect a plant with transmission pipelines.
Under this logic, every hydrogen pipeline, even those within a single state and even those currently operated on a proprietary basis, could theoretically be regulated by FERC if the pipeline receives hydrogen that was made from (methane) natural gas that was carried by an interstate pipeline. To the extent FERC adopts a policy to the contrary, there would still be a good deal of uncertainty until that exemption was affirmed by the courts.
Under the NGA, pipelines and related facilities must receive a FERC Certificate of Public Convenience and Necessity before they can begin construction or operations. These pipelines can only charge the rates in their approved tariffs, which must be just and reasonable and non-discriminatory. In addition, the NGA regulates the siting and terms of natural gas storage facilities, as well as LNG export and import terminals. Further, while many categories of sales have been exempt from natural gas regulation, the NGA still regulates some sales. In particular, the NGA still regulates "bundled" sales of gas made by pipelines in most circumstances. The natural gas industry has had decades to unbundle transportation and sales, but hydrogen pipelines, sellers, and buyers have been operating outside of this regulation, entering into the commercial arrangements that make most sense for their businesses. There is likely to be a significant burden in transitioning to a scheme that mirrors the interstate unbundled natural gas markets. Unfortunately, Senator Manchin's bill threatens to lay that burden at the doorstep of a new industry. There will also be substantial new recordkeeping and reporting burdens as hydrogen transporters find themselves subjected to FERC's Uniform System of Accounts, and buyers and sellers become obligated to report hydrogen transactions as under the current FERC Form No. 552.
Under the NGA, once a pipeline has received a certificate from FERC, that gas pipeline gains powers under the NGA to utilize federal eminent domain authority. However, the NGA's federal siting authority is very much a double-edged sword. Natural gas pipelines can qualify for eminent domain once they are certificated and can use this authority to acquire land used to build the pipeline. However, they also must obtain permission before they can be constructed, operate or be abandoned. Historically, this certification process is expensive and can be delayed by long proceedings and multiple appeals to courts. It remains to be seen whether the streamlining provisions of the bill significantly benefit projects other than the Mountain Valley Pipeline, or whether Congress's willingness to accelerate certain projects will divide the hydrogen industry into politically-favored winners and unfavored losers.
In terms of substance, the NGA requires that pipeline development be "orderly," which is premised on FERC knowing what's best for the industry as a whole. For instance, FERC strives to prevent duplicative gas pipeline infrastructure and can deny certificates on that basis. It remains to be seen whether or how FERC will distinguish hydrogen from methane natural gas in its determinations of public necessity. One uncertainty in particular is whether a hydrogen pipeline can demonstrate a need for its service if an area is already served by a methane natural gas pipeline, given that the NGA as amended by the bill treats the two commodities as identical. In other words, because both are defined as "natural gas," it is possible FERC will deny the certification of hydrogen pipelines where methane natural gas pipelines already exist.
Issues for Hydrogen Infrastructure Owners and Operators:
The expansion of the NGA to cover hydrogen as "natural gas" will most directly impact current hydrogen pipeline operators, as well as storage owners and hydrogen sellers. While new entrants will face the same uncertainty as they develop their projects, current operators face additional risk having developed projects under a more lenient regulatory regime. Based on the wording of the statute alone, large sectors of the hydrogen industry will become noncompliant overnight, often without a meaningful chance of becoming compliant without lengthy proceedings and breaking numerous contracts. Importantly, because the scope of activities covered by "interstate commerce" for purposes of the NGA is so broad, many hydrogen operators who consider their activities to be intrastate in nature may nevertheless become subject to the NGA's complex and far-reaching regulation.
Current hydrogen pipeline and storage owners will need to plan and act quickly. Based on the text of the proposed bill, the following activities could become illegal overnight: (1) using existing pipelines to transport hydrogen until certificated; (2) using storage assets to store hydrogen until certificated; (3) expanding facilities without securing a certificate; (4) combining transportation and sales of hydrogen in one transaction unless approved by FERC; (5) operating without a FERC-approved tariff; (6) failing to implement and oversee an effective capacity release program, including compliance with the shipper-must-have-title rule; (7) keeping books and records not in compliance with the Uniform System of Accounts; (8) earning a rate of return in excess of what FERC considers just and reasonable; (9) differentiating between classes of customers on bases that do not fit neatly into firm and interruptible categories designed for natural gas transportation; (10) providing service under non-standardized transportation service agreements; (11) abandoning the use of a hydrogen pipeline or storage facility, or converting it to another use without FERC approval; and (12) transferring the ownership of a hydrogen pipeline or storage facility without FERC approval. And this list is certainly incomplete.
Current hydrogen infrastructure owners and operators may be in a race against time on certain of these issues. For example, it may be helpful to segment pipeline and storage assets in different corporate entities to clearly delineate regulated and non-regulated activities since having the same entity both sell hydrogen and own a hydrogen pipeline could impose greater regulatory requirements over those sales. However, all of these activities may need to be conducted briskly depending on the effective date of the regulations. For instance, once a pipeline is subject to the NGA, the owner would need permission from FERC to transfer it to an affiliate. Therefore, if a current asset owner (such as a refining company) wanted an affiliate to own and operate its hydrogen pipeline, such reorganizations may need to be completed before the bill takes effect in order to avoid the requirement to receive abandonment authorization from FERC.
There may be ways to secure exemptions from certain regulations. However, it is not clear which exemptions a current hydrogen pipeline would fall under. Ultimately, hydrogen infrastructure operators might need to receive permission from FERC to continue operating on some sort of emergency basis. FERC has considered such emergency relief on several occasions, most recently during the COVID-19 public health emergency. The result of any such request would, of course, be extremely uncertain. However, for hydrogen suppliers and pipeline owners that are relied on by crucial industries, there will be little choice but to continue to operate and risk the possible consequences that flow from being subject to a new and unfamiliar federal regulatory regime.
Much remains unknown as to how the NGA might govern hydrogen infrastructure under Senator Manchin's permitting reform bill. However, if enacted, the bill will certainly have immediate, dire implications for owners and operators of hydrogen infrastructure and their customers. Any businesses that own, operate, or rely on hydrogen infrastructure should begin urgently considering how these regulations will affect them. NGA compliance, already a complex undertaking, will become exponentially more difficult with existing contracts or customers or scheduled expansions, all accounted for after the fact. Venable's energy group has experience navigating complex compliance issues and lengthy FERC proceedings, including emergency requests and rulemakings, and are at the vanguard of hydrogen pipeline regulatory issues. Please reach out with any questions on how they might assist your business navigate these and other issues presented by this proposed law.