A Green Strategies Bulletin
Earlier this year, Treasury released updated guidance related to Section 1603 of the American Recovery and Reinvestment Act of 2009 (ARRA), regarding payments for specified energy property in lieu of tax credits and when construction is deemed to have begun. Section IV.C. of the Program Guidance, originally issued in July 2009, has been revised. Also, on June 25, 2010, Treasury released responses to FAQs regarding the “beginning of construction.” The Guidance and FAQs can be found on the Treasury website.
To qualify for Section 1603’s grant-in-lieu-of-tax-credit (the “Grant”), a project generally must meet the following requirements:
- Construction must commence prior to January 1, 2011.
- The property must be placed in service after 2008 but before 2014 (2013 for wind property and 2017 for energy credit property).
- The property must be tangible personal property or other property that is an integral part of a qualified facility.
- The Grant must be applied for by October 1, 2011.
As developers scramble to meet the January 1, 2011 deadline on beginning construction, Treasury has issued new taxpayer-favorable guidance on what will be considered to be “beginning construction.”
Generally, construction begins when physical work of a significant nature begins. Work performed by the Grant applicant and by other persons under a written binding contract is taken into account in determining whether construction has begun. An applicant may elect the safe harbor described below to determine when construction begins.
Physical work of a significant nature Both on- and off-site work may be taken into account for purposes of demonstrating that physical work of a significant nature has begun. If a manufacturer produces components for multiple facilities, reasonable methods must be used to associate individual components with particular facilities. Physical work of a significant nature does not include preliminary activities such as planning or designing, securing financing, exploring, researching, clearing a site, test drilling of a geothermal deposit, test drilling to determine soil condition or excavation to change the contour of the land (as distinguished from excavation for footings and foundations).
Self construction. If an applicant manufactures, constructs, or produces property for use by the applicant in the applicant’s trade or business (or for the applicant’s production of income), the work performed by the applicant is taken into account in determining when physical work of a significant nature begins. This includes excavation of foundations, setting anchor bolts, pouring concrete, etc.
Construction by contract. For property that is manufactured, constructed or produced for the applicant by another person under a written binding contract entered into prior to the manufacture, construction or production of the property for use by the applicant in the applicant’s trade or business (or for the applicant’s production of income), the work performed under the contract is taken into account in determining when physical work of a significant nature begins. A contract is binding only if it is enforceable under State law against the applicant or a predecessor, and does not limit damages to a specified amount (e.g., by use of a liquidated damages provision). A contractual provision limiting damages to an amount equal to at least 5 percent of the total contract price will not be treated as limiting damages to a specified amount.
Safe Harbor. An applicant may treat physical work of a significant nature as beginning when more than 5 percent of the total cost of the property has been paid or incurred. In the case of property manufactured, constructed or produced for the applicant by another person under a binding written contract that is entered into prior to the manufacture, construction, or production of the property:
- The cost of the property under the contract is treated as paid or incurred when the property is provided to the applicant.
- For periods before the property is provided to the applicant, costs paid or incurred with respect to the property by such other person are treated as costs of the property that are paid or incurred when paid or incurred by such other person.
Summary. Treasury also issued responses to FAQs on June 25, 2010, to provide additional guidance and summary on when construction is deemed to begin. Such responses provided the following basic guiding provisions:
- There are two ways to show that construction has begun: (1) to begin physical work of a significant nature; and (2) to meet a 5 percent safe harbor.
- Physical work of a significant nature includes any physical work on the specified energy property at the site, and work that has taken place under a binding written contract for the manufacture, construction or production of specified energy property for use by the applicant’s facility provided the contract is entered into prior to the work taking place.
- Specified energy property is limited to tangible personal property and other tangible property used as an integral part of the activity performed by the qualified facility and located at the site the qualified facility.
- Treasury will scrutinize construction activity that does not involve a continuous program of construction or a contractual obligation to undertake and complete within a reasonable time, a continuous program of construction. Disruptions beyond the applicant’s control will be taken into account.
- Preliminary work such as clearing land and obtaining permits is not physical work of a significant nature
- Work performed under a contract does not include work to produce components or parts that are in existing inventory or are normally held in inventory by a manufacturer.
- The term “paid or incurred” generally means paid or incurred within the meaning of Treas. Regs. §1.461-1(a)(1) and (2). That is, costs are taken into account when cash-method taxpayers “pay” them and when accrual-method taxpayers “incur” them.
- To satisfy the 5 percent safe harbor, if the applicant’s project includes multiple units of specified energy property, an applicant can opt to apply for a payment based on some, but not all, units of property.
- Applicants must document the physical work. To demonstrate that physical work has commenced under a binding written contract, applicants should submit a copy of the contract and a statement from the contractor, signed under penalties of perjury, describing the work that has commenced.
- For projects relying on the 5 percent safe harbor, applicants must submit a statement from an authorized representative of the applicant signed under penalties of perjury, or for projects with an estimated eligible cost basis of $1 million or more, from an independent accountant, attesting to the method of accounting used by the applicant for federal tax purposes (cash or accrual).