The Treasury Department and IRS recently issued final regulations on the transfer of certain credits to implement the transferability provisions of the Inflation Reduction Act (IRA), which take effect on July 1, 2024. Moreover, on May 16, 2024, the IRS published Notice 2024-41, which provided additional guidance on the domestic content requirement for bonus credit amounts.

Background: IRA Tax Credits for Renewable Energy Industry

As discussed in this Pierce Atwood alert, the IRA brought welcome news to the renewable energy industry. The IRA significantly altered the energy tax credit regime, including extensions and expansions of the investment tax credit (ITC) under Section 48 and the production tax credit (PTC) under Section 45, which also include 10% bonus credit amounts for projects that meet the domestic content requirement and other certain conditions. The ITC and PTC apply to projects beginning construction before January 1, 2025.

To monetize these tax credits and certain other tax credits, the IRA allows taxpayers to transfer the tax credits for cash.

Final Regulations on Transferability

1. HOW TO QUALIFY

Under the regulations, certain eligible taxpayers may transfer some or all of their eligible credits to unrelated taxpayers (transferee taxpayer). The transferee taxpayer must pay for the credit in cash, which cannot be included in the gross income of the eligible taxpayer or deductible to the transferee taxpayer.

a. Eligible Taxpayer

The transferor taxpayer must be an “eligible taxpayer,” which is essentially any taxpayer that is not a tax-exempt entity subject to the direct-pay rules. Where a partnership has a tax-exempt partner, the regulations would still qualify the partnership as an eligible taxpayer. However, the tax-exempt use property limitation of Section 50(b)(3), (4) may limit the tax-exempt partner’s credit amount. This effectively creates a gap in the tax credit monetization rules of direct pay and transferability where partnerships with tax-exempt partners are ineligible for direct pay (regardless if some or all partners are tax exempt) while Section 50(b)(3), (4) limits the use of transferability.

b. Eligible Credits

The regulations qualify the bulk of the IRA tax credits under Sections 45 and 48 as “eligible credits” for transfer.

c. Specified Credit Portion

In determining the portion of credits that can be transferred, the IRS adopted a “vertical nature” view rather than “horizontal nature” view. The Final Regulations disallow any bonus credit amounts to be severed from the base tax credit amount. Therefore, taxpayers must transfer all or a percentage of the entire credit amount.

d. Paid in Cash

All transfers are “required to be paid in cash,” which includes “cash, check, cashier’s check, money order, wire transfer, automated clearing house (ACH) transfer, or other bank transfer of immediately available funds.”

However, most relevant to the “paid in cash” requirement is that cash payments for credits cannot be made before the year the credit is generated and no later than the due date for filing the transfer election.

The IRS took the view that allowing advanced payments would raise legal and administrative issues such as whether an excessive credit transfer occurred or whether an eligible taxpayer has gross income if prepaid eligible credits were not transferred in a later year. The IRS did clarify that there is no prohibition on the transferee taxpayer loaning funds to an eligible taxpayer, including loans secured by an eligible credit purchase and sale agreement.

2. HOW TO TRANSFER THE CREDIT

a. No Additional Transfers

The Final Regulations also expanded on the one-time transfer limitation. While eligible credits can only be transferred one time, IRS regulations seek to close the door on any secondary markets. Specifically, the IRS stated that if “there are brokers or other taxpayers providing liquidity, it is noteworthy that any payments received by those taxpayers related to eligible credits will be taxable…”

b. Making the Transfer Election

Taxpayers must also make an election to transfer any eligible credits using Form 3468. The form must be filed with the original or superseding tax return (including any extensions). However, transfer elections cannot be made on an amended return, but the IRS did clarify that amended returns may be used to correct numerical errors.

c. Transfer Election Statements

Moreover, as part of the transfer election process, both the eligible taxpayer and transferee taxpayer must attach a “transfer election statement” to their respective returns. The transfer election statement is a written document that describes the transfer of a specified credit portion between the eligible taxpayer and transferee taxpayer. The transfer election statement can be any document (e.g., purchase and sale agreement, etc.) that contains basic information about the transfer, such as the parties, credit type, credit registration number, amount being transferred, etc.

New Domestic Content Requirement Guidance

The IRS also published new guidance on the domestic content requirement for the ITC and PTC. As discussed in this prior Pierce Atwood alert, where a qualifying project meets the prevailing wage and apprenticeship requirements, the project can earn an additional 10% ITC or PTC bonus if the project satisfies the domestic content requirement. Designed to encourage American manufacturing, the domestic content requirement is satisfied when both the Steel or Iron Requirement and the Manufactured Products Requirement are met.

Prior to the new Guidance, there was ambiguity in calculating the Adjusted Percentage Rule and Domestic Cost Percentage to satisfy the Manufactured Products Requirement. Taxpayers were forced to gather cost data from multiple suppliers and manufacturers, which presented challenges for substantiation and verification. The Guidance provides taxpayers with a new safe harbor to alleviate these challenges. New Elective Safe Harbor

The new elective safe harbor provides a pre-determined cost percentage for various Applicable Projects and Applicable Project Components. Solar photovoltaic systems, land-based wind, and battery electric storage system projects are all eligible to elect the new safe harbor. For example, the Guidance provided the following associated cost percentages for solar photovoltaic facilities: