New IRS Guidance Regarding Code Section 45Q Credits - Revenue Ruling 2021-13

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The Internal Revenue Service (IRS) issued new guidance regarding Section 45Q tax credits (Revenue Ruling 2021-13). The IRS guidance addresses the application of Section 45Q of the Internal Revenue Code of 1986 and the capture of carbon dioxide using equipment installed at a methanol plant (by way of example) with existing carbon dioxide separation equipment. The guidance discusses three relevant matters:

  • Whether carbon capture equipment includes dual-use equipment for purposes of Section 45Q;
  • The quantum of ownership in such carbon capture equipment necessary to claim the Section 45Q tax credit; and
  • How the IRS would determine the placed-in-service date for purposes of eligibility for, and the appropriate rate of, tax credits under Section 45Q.

As with the original Section 45Q regulations, the guidance is favorable for developing and financing carbon capture projects. Section 45Q was enacted in 2008 and expanded by the Bipartisan Budget Act of 2018.

Carbon capture technology removes carbon dioxide from exhaust, ambient air, or other gas streams, thus reducing net emissions. Oil and gas companies often inject carbon dioxide into their reservoirs to enhance oil recovery (carbon dioxide flooding), a process known as “enhanced oil recovery” (EOR). Currently, the tax credit is for each metric ton of qualified carbon dioxide captured during the first 12 years of the operation of such carbon capture equipment. The tax credit depends on the ultimate use or treatment of the qualifying carbon dioxide and the placed-in-service date of the equipment. The amount varies from $10 to $50 per metric ton, with a higher value for sequestered carbon dioxide than for carbon dioxide used in some other fashion.

The Guidance

For illustration purposes, the guidance utilizes a scenario where an existing facility produces methanol in a multistep process; part of that facility’s process includes acid gas removal units that purify raw gas and release the separated carbon dioxide into the atmosphere. With this example, the unit was placed in service in 2017, and no taxpayer claimed a Section 45Q tax credit for that facility. As the scenario continues, in 2021, an investor purchases and installs new equipment for carbon capture necessary to create a single process train capable of capturing, processing, and preparing for use or transportation the carbon dioxide that would have been released from the facility. The scenario further states that the third-party owner of the equipment did not acquire an equity interest in the acid gas unit or the related facility.

Although Section 45Q does not define carbon capture equipment specifically, the final Treasury Regulations under Section 45Q, issued on January 6, 2021, define carbon capture equipment as all equipment used to capture or process carbon dioxide until the transport of the carbon dioxide for disposal, injection, or utilization. In addition, such equipment included that used for (1) separating, purifying, drying, and/or capturing carbon dioxide that would otherwise be released into the atmosphere from an industrial facility; (2) removing carbon dioxide from the atmosphere via direct air capture; or (3) compressing or otherwise increasing the pressure of carbon dioxide, as well as that equipment necessary to compress, treat, process, liquefy, pump, or perform some other physical activity to capture qualified carbon dioxide. The guidance treats all apparatuses that make up a functioning process train capable of capturing, processing, and preparing carbon dioxide for transport and disposition as a single unit of carbon capture equipment or train.

In offering the guidance, the IRS concluded that the acid gas removal unit is carbon capture equipment as defined in the Final Regulations, regardless of its other potential uses (such as removing other impurities). The guidance reaches this conclusion because at least one of the functions of the acid gas unit is to separate carbon dioxide from the gas stream. In addition, the IRS further provided that, although the investor did not own the acid gas unit, the investor nevertheless could claim the Section 45Q tax credits for the carbon dioxide generated at the methanol facility. The guidance clarifies that it is not necessary to own all of the carbon capture equipment within a single process train to earn Section 45Q tax credits. The investor must own at least one component of carbon capture equipment in a single process train of carbon capture equipment.  

The IRS further concluded that the placed-in-service date is the original placed-in-service date of the single process train to qualify for Section 45Q tax credits. The guidance considers such unit of carbon capture equipment as placed in service on the date that any person first places it in a condition or state of readiness and availability for the specifically designed function of capturing, processing, and preparing carbon dioxide for transport for disposal, injection, or utilization. The placed-in-service date in the IRS's methanol plant scenario occurred in the year 2021, which is when new components of carbon capture equipment (used in the IRS’s scenario) allowed the facility to capture, process, and prepare carbon dioxide then transported for utilization or sequestration.

In addition, the guidance seeks to reconcile: (1) the placed-in-service date for purposes of Section 45Q and (2) the placed-in-service date for purposes of claiming depreciation deductions pursuant to IRS Code 167 and 168. Thus, the depreciation treatment of the single process train as a unit and its original placed-in-service date for purposes of Section 45Q would not affect the determination of the acid gas unit’s original placed-in-service date for depreciation purposes.

Summary

The guidance clarifies several important features of the Section 45Q tax credit structure. First, dual-purpose equipment can qualify under the definition of carbon capture equipment. Additionally, more than one owner can own components in a single process train of carbon capture equipment without compromising the credit. Second, the placed-in-service date is the date a single process train of carbon capture equipment is placed in service. In other words, the placed-in-service date is the date in which such equipment is in a condition or state of readiness and availability for the capture, processing, and preparation of carbon dioxide for transport for disposal, injection, or utilization. Third, the 12-year period for claiming the Section 45Q tax credit begins on the date the single process train is originally placed in service. However, the guidance fails to clarify how the ownership of “at least one component” of carbon capture equipment in that single process train is to be measured to determine its eligibility for the Section 45Q tax credits. How is that eligibility determined? Based on the dollar value of that “component”? If so, what would be the minimum value of the investment? Or, rather, is the determination based on that component’s function within the single process train?

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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