Tax Alert Regarding the Impact of the Senate Bill on the Energy Industry

Tax Law Update | December.06.2017

Early Saturday morning the Senate passed its tax bill by a vote of 51 to 49.  The bill as passed included a large number of last-minute important changes that were needed to secure the votes for passage, including some so late that they were added by hand-written edits.  It appears that some of the last-minute changes may have unintended consequences and it can be expected that the Conference Committee negotiations to reconcile the Senate and House bill will attempt to remedy some such consequences. 

Here are the highlights most relevant for the energy industry:

Corporate Rate:

The corporate income tax rate is dropped to 20% but does not take effect until 2019.

Alternative Minimum Tax:

A last minute amendment re-introduced the alternative minimum tax (AMT) for both corporations and individuals. Prior versions of the bill would have repealed the AMT. The AMT imposes a rate of 20%, which would be the same as the regular corporate tax rate under the bill. Because a taxpayer must pay the higher of its AMT or its regular tax and because the AMT imposes a 20% rate after disallowance of a number of popular corporate preference items, a corporate taxpayer's higher tax amount will necessarily be the AMT, effectively repealing many deductions and credits commonly used by corporations, including those for research and experimentation and intangible drilling costs. The fact that the rate of tax is the same for both the AMT and the corporate tax is a significant departure from current law and is at cross-purposes with the corporate tax rate cut. There is hope that the problem may be fixed in conference: the corporate tax community has been quick to point out this unintended result and Representative Brady (R-Tx), who has been appointed Chair of the Conference Committee, has already stated that fixing the AMT is a "top priority."

PTCs:

One of the significant AMT items important to the wind energy industry is the production tax credit (PTC). Under current law, PTCs can be used against the AMT but only for the first four years after the placed in service date of the relevant wind turbines.  The AMT limitation may now hit tax equity investors who previously have not been heavily hit by the AMT because the regular rate exceeded the AMT. The result would be the disallowance of PTCs beyond four years after the placed in service date. Hopefully, the resolution of the AMT problem described above will reinstate PTC availability as well.

Base Erosion Anti-Abuse Tax (BEAT):

The BEAT is a 10% minimum tax that applies to corporations that have average gross receipts over the prior three years of at least US $500 million and that make deductible cross-border payments amounting to 4% or more of their total deductions for the year.  While the legislation is aimed at the U.S. subsidiaries of foreign companies, it is likely to affect a broad swath of the tax equity market, including U.S.-based multinationals, banks and insurance companies depending on their specific circumstances.  Some companies will be able to restructure to avoid the BEAT, but others may not.  If subject to the BEAT, a company calculates its liability for the tax by excluding credits such as the ITC and the PTC.  Until application of the BEAT is clarified, it could have a considerable chilling effect on tax equity investment in the renewable industry.

Pass-Through Rate Drop Made Available to MLPs:

Like the House bill, the Senate bill reduces the tax on income received from pass-through entities such as partnerships.  The Senate bill reduces the tax by allowing a deduction of (now) 23% for income received from pass-throughs, but capped at 50% of the partnership's payroll amount.  That cap would have made the deduction essentially unavailable to unitholders in publicly traded partnerships (MLPs).  Most MLPs are large oil and gas related businesses that create many jobs but that are not direct employers; MLPs usually set up a separate but affiliated entity to function as the employer. The Senate bill was revised to clarify that the payroll limitation on the pass-through deduction did not apply to MLPs just as it does not apply to REITs. With this change, the pass-through rate drop will be effective for all eligible partners in MLPs.

What's Next?

Now that both the House and the Senate have passed similar but different tax bills, we expect that the bills will go to the Conference Committee which will reconcile the differences and agree on a  final bill that must be approved by both houses. Legislators aim to move the bills through the conference process and vote on the final bill before their holiday break. The Conference Committee process may permit the introduction of clarifying amendments and it can be expected that many groups will be making an effort to obtain desired changes.  In this regard, the highest priorities for the renewable energy industry will be fixing the impact of the AMT, exempting the PTC and ITC from the BEAT and ensuring that the House bill's provisions cutting the PTC amount and restricting start of construction dates are not enacted.