The momentum in favor of alternative energy slowed in the 1980s with the implementation of President Reagan’s free-market philosophy. His theory and that of his advisers was that the government should minimize its intervention in the energy markets and that high fuel prices would motivate renewable energy investments sufficiently to ensure optimal energy production. That attitude was encouraged further because of the use by some of the renewable energy facilities as abusive tax shelters. Because the size of the tax credits was tied to investment rather than energy production, investors could receive the benefit of the tax credits even when their investments did not contribute to a supply of renewable energy. The combination of these two factors resulted in the expiration of the energy credits and excise taxes that had been created in the 1970s.
Tax incentives to promote energy conservation and the development of alternative fuels were revived after the Reagan years. The shift in policy was motivated by concerns not only about energy security and the high price of energy but also about the environment. Congress passed the Energy Policy Act of 1992, the purpose of which was to promote increases in the production and use of energy from renewable energy resources, further advance renewable energy technologies, and encourage exports of U.S. renewable energy technologies and services. The Energy Policy Act created the PTC, which at that point applied to renewable energy projects such as wind. Unlike the investment-based tax credits of the ETA, the PTC was tied to the actual production of electricity ‘‘in order to reward efficient operators and prevent tax shelter abuses with equipment that does not work.’’ Under the ancíen tax Régime, taxpayers seeking to claim investment-based tax credits would quickly develop wind projects solely for the purpose of obtaining the credit, even though little or no actual electricity was generated by the projects. Under the PTC regime, a wind project must actually work and produce electricity before the credit can be claimed; indeed, the more electricity produced, the more credits can be claimed. Further, the PTC is spread over 10 years, encouraging developers to build long-lasting wind facilities. The legislative history to section 45 states that in enacting the PTC, Congress aimed to subsidize alternative energy producers that would otherwise have difficulty finding an economically attractive market for their product because of the high cost of their technology. Specifically, the PTC was intended to provide ‘‘a larger subsidy for those producers who utilize renewable energy in a more
intensive manner.’’ The legislative history also suggests that a wider goal of the PTC was to promote the substitution of renewable energy sources for fossil fuels in the generation of electricity, thereby reducing atmospheric pollutants and enhancing U.S. energy independence. Congress
was concerned with both environmental and energy security issues and intended for the PTC to ‘‘close the gap between the cost [of] conventional
sources and the cost of renewable energy powerplants.’’
Congress has continued to add incentives for the production of renewable energy since enacting the PTC. In 1999, the Tax Relief Extension Act50 extended the PTC to facilities placed in service before January 1, 2004. In 2004 the Working Families Tax Relief Act of 2004 extended the PTC to facilities placed in service before January 1, 2006. The American Jobs Creation Act of 2004 (AJCA) extended the PTC to other renewable resources, including open-loop biomass, geothermal power, solar power, small irrigation systems, landfill gas, and trash combustion. The legislative history to AJCA notes that the PTC has been a successful tool in the development of wind power as an alternative source of electricity generation, and therefore Congress believed the country would benefit from the expansion of the PTC to other ‘‘environmentally friendly’’ sources of electricity generation. Congress’s increasing interest in alternative energy, added to the effects of increasing fossil fuel costs, resulted in alternatives becoming a viable component of the energy industry.
Comprehensive energy legislation was enacted in 2005 in the Energy Policy Act. As part of that act, Congress renewed the PTC for the third time. The PTC was extended again by the Energy Improvement and Extension Act of 2008, and most recently was renewed as part of the American Recovery and Reinvestment Act of 2009 (ARRA). Currently, the PTC is available for wind facilities placed in service by December 31, 2012.
D. Mechanics of Section 45
Section 45 provides a production tax credit for each kilowatt-hour of electricity produced by the taxpayer from a ‘‘qualified energy resource’’ at a ‘‘qualified facility’’ that is sold to an unrelated person during a tax year.58 The PTC, which is 2.2 cents per kilowatt-hour for wind energy, is available for a 10-year period beginning on the date on which the facility is placed in service. Wind is a qualified energy resource, and a facility using wind to produce electricity is a qualified facility as long as it was placed in service after December 31, 1993, and before January 1, 2013. Also, in Rev. Rul. 94-31, the IRS ruled that for wind energy, each wind turbine together with its tower and supporting pad is a separate qualified facility.
The PTC is tied to production, rather than investment, to ensure that only facilities actually contributing energy to the grid will benefit from the tax credit. The PTC also requires that the electricity produced by a qualified facility be ‘‘sold by the taxpayer to an unrelated person during the taxable year.’’ A facility that generates electricity from wind that is not sold, is sold to a related person, or is used for the producer’s own electrical needs, will not qualify for the PTC. The rationale for this requirement is not explicitly stated but likely was included to address sales of electricity between related parties made solely in order to claim the PTC, because of Congress’s concern with the abuse of tax credits under the previous investment tax credit regime.
Another requirement of the PTC is that the energy be ‘‘produced by the taxpayer.’’ Thus, a person must own the energy facility in some capacity in order to claim the tax credits. Section 45(e)(3) provides that, ‘‘in the case of a facility in which more than 1 person has an ownership interest,
except to the extent provided in regulations prescribed by the Secretary, production from the facility shall be allocated among such persons in proportion to their respective ownership interests in the gross sales from such facility.’’ In the case of a wind farm owned by a limited liability company that has more than one member and is taxed as a partnership for federal income tax purposes, the project is considered owned by the partnership. The net income from the sale of the electricity is allocated to the partners in accordance with the partnership tax rules. The requirement that the taxpayer owns the energy facility precludes the use of sale lease backs or inverted lease structures, structures available to recipients of the section ITC, for example, because they are not limited by this ownership requirement.
Interestingly, under a provision enacted in ARRA, a wind energy developer can elect to claim a 30 percent ITC in lieu of the PTC beginning in 2009. A developer that makes such an election can engage in a sale-leaseback or inverted lease structure. In light of Congress’s concern with tax shelter abuse under the original 10 percent ITC for wind, it appears that Congress has overcome (or forgotten) that worry by providing a bigger ITC benefit than that available under prior law.