Energy & Infrastructure Alert
IRS guidance issued June 29, 2021 extends the deadline by which renewable energy projects (including wind and solar projects) that began construction in 2016 through 2020 may finish construction and qualify for production tax credits (“PTCs”) or investment tax credits (“ITCs”) without having to prove that work was continuous throughout the entire construction period. The deadline – described in more detail below – is viewed by most tax equity investors and lenders as a gating issue for purposes of valuing the tax credits available for a project. The guidance gives 2016-2020 vintage projects an additional one or two years, as described below. The IRS also relaxed the rules tied to proving continuous work by clarifying that the way in which sponsors demonstrate continuous work is not tied to the original method they used to begin construction. The guidance is in IRS Notice 2021-41.
The value of PTCs or ITCs for which a renewable energy project can qualify varies depending on the year in which the construction of the project begins. There are two ways to start construction in a given year: by starting physical work of a significant nature in that year, or by paying or incurring (according to the taxpayer’s method of accounting) five percent or more of the total cost of the project in that year. Both methods are subject to a complicated web of exceptions and qualifications that have evolved over multiple iterations of IRS guidance.
The rules include a “continuity requirement,” which says that once construction begins, a project either needs to be “placed in service” in the next four years (the “Continuity Safe Harbor”), or the sponsor has to prove that work was “continuous” based on facts and circumstances. The method of satisfying the continuity requirement has historically depended on how construction began. Physical work projects needed to show continuous physical work, and projects relying on cost buildup needed to show “continuous efforts,” a more flexible concept that includes activities such as continuing to incur costs, entering into binding written contracts, obtaining permits, and performing physical work. As between the two, the “continuous efforts” test accessible to five percent test projects is generally viewed as being more achievable with the right set of facts.
Due largely to a lack of guidance on the meaning of “continuous” in this context as well as the conceptual difficulty of trying to prove that work was continuously performed on something that took over four years to place in service, tax equity and debt providers generally view compliance with the Continuity Safe Harbor as a gatekeeping issue for tax credit sizing and general financeability.
In May of 2020 the IRS extended the four year Continuity Safe Harbor to five years for 2016 and 2017 vintage projects in response to the COVID-19 pandemic. In December of 2020 the IRS also provided a special ten year Continuity Safe Harbor for certain projects located on federal land and for offshore wind projects.
The new guidance recognizes the reality that projects effectively need to comply with the Continuity Safe Harbor in order to confidently move forward with tax equity and debt financings, and extends the Continuity Safe Harbor to six years for projects that began construction in 2016 through 2019, and to five years for projects that began construction in 2020. Although the stated intent of the change is to help projects that were delayed because of the COVID-19 pandemic, the guidance does not ask sponsors to provide a reason for delay. The relief is available to all projects that began construction in 2016 through 2020.
Although pre-2016 and post-2020 projects are generally stuck with a four-year Continuity Safe Harbor, the guidance clarifies that these projects can rely on the more generous “continuous efforts” standard moving forward. This will significantly benefit projects relying on a physical work test strategy that would previously have been locked in to proving continuous physical work if outside of the Continuity Safe Harbor, but will now be able to access additional options to prove their case if needed.