IRS Issues “Beginning Construction” Guidance for PTC and ITC

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On April 15, 2013, the Internal Revenue Service issued anticipated guidance defining the new “beginning construction” milestone for Production Tax Credit and Investment Tax Credit eligible energy facilities.

The American Taxpayer Relief Act, enacted January 2, 2013 changed the former PTC sunset date for wind projects from January 1, 2013 to January 1, 2014. It also changed the familiar “placed-in-service” milestone to a new “beginning of construction” milestone, which now applies to all PTC eligible facilities, including wind, biomass, geothermal, LFG, MSW, hydro and marine facilities. After the change in law, in order to be eligible for the PTC or to opt in lieu for the ITC, PTC-eligible qualified facilities now must begin construction before January 1, 2014.

The guidance largely builds upon previous guidance defining “commencement of construction” developed by the Treasury Department’s in its implementation of the now-expired Cash Grant program established by the American Recovery and Reinvestment Act of 2009. As with the rules for commencement of construction under the Cash Grant guidance, for PTC and ITC purposes, developers will be able to document beginning of construction by either beginning “physical work of a significant nature” or by meeting a safe harbor by paying or incurring 5% or more of the total cost of the facility by January 1, 2014. However, the recent guidance permits a single project comprised of multiple facilities, rather than for instance only each individual wind turbine to qualify and clarifies the treatment of “master supply” or “frame” equipment procurement arrangements. It also imposes a new requirement for continuous efforts to complete the facility, dependent on facts and circumstances. The guidance retains and in some ways strengthens previous rules restricting the use of equipment in inventory from meeting the physical work of significant nature test but introduces a bit of flexibility for mitigating the risk that construction cost overruns will defeat a previously safe-harbored facility.

Notably, the guidance does not refer to how the new beginning of construction guidance relates to existing IRS guidance on placed in service. For instance, the IRS did not include an absolute outside date for placed in service of a facility that had met the beginning of construction deadline. Developers will continue to be at risk to some extent under these guidelines. However, the guidance continues the IRS and Treasury’s focus on facilitating the financing and development of renewables with the PTC and ITC and provides a workable framework within which projects can negotiate financing under the extended tax credits.