On April 15, the Internal Revenue Service (the “IRS”) released notice 2013-29 (the “Notice”) which provides guidance on what constitutes “beginning of construction” for purposes of the American Taxpayer Relief Act of 2012 (“ATRA”). A copy of the Notice can be found here. Under ATRA, a qualified facility (as described in section 45(d) of the Internal Revenue Code) will be eligible to receive the renewable electricity production tax credit (“PTC”) under section 45 of the Code, or the energy investment tax credit (“ITC”) under section 48 of the Code in lieu of the PTC, if construction of such facility begins before January 1, 2014.
The Notice provides two methods that a taxpayer may use to establish that construction of a qualified facility has begun. A taxpayer may establish the beginning of construction by starting physical work of a significant nature. Alternatively, a taxpayer may establish the beginning of construction under a safe harbor if it pays or incurs five percent of the total cost of a facility before January 1, 2014. Although a taxpayer may satisfy both methods, a taxpayer need only satisfy one method to establish that construction of a facility has begun for the purpose of qualifying for the PTC or ITC.
Construction of a qualified facility begins when physical work of a significant nature starts. Work performed by the taxpayer and work performed for the taxpayer by other persons under a binding written contract that is entered into prior to the manufacture, construction, or production of the property for use by the taxpayer in the taxpayer’s trade or business is taken into account in determining whether construction has begun. Whether a taxpayer has begun construction of a facility before January 1, 2014, will depend on the relevant facts and circumstances. The IRS will closely scrutinize a facility, and may determine that construction has not begun on a facility before January 1, 2014, if the taxpayer does not maintain a continuous program of construction. Preliminary activities are not physical work of a significant nature. Preliminary activities include: planning or designing, securing financing, exploring, researching, obtaining permits, licensing, conducting surveys, environmental and engineering studies, clearing a site, test drilling of a geothermal deposit, test drilling to determine soil condition, or excavation to change the contour of the land (as distinguished from excavation for footings and foundations).
Both on-site and off-site work (performed either by the taxpayer or by another person under a binding written contract) may be taken into account for purposes of demonstrating that physical work of a significant nature has begun. The Notice provides an example for a wind farm. In the example, on-site physical work of a significant nature begins with the beginning of the excavation for the foundation, the setting of anchor bolts into the ground, or the pouring of the concrete pads of the foundation. If the wind turbines and tower units are to be assembled on-site from components manufactured off-site by a person other than the taxpayer and delivered to the site, physical work of a significant nature begins when the manufacture of the components begins at the off-site location, but only if (i) the manufacturer’s work is done pursuant to a binding written contract and (ii) these components are not held in the manufacturer’s inventory. If a manufacturer produces components for multiple facilities, a reasonable method must be used to associate individual components with particular facilities.
A taxpayer may enter into a binding written contract for a specific number of components to be manufactured, constructed, or produced for the taxpayer by another person under a binding written contract (a “master contract”). If the taxpayer then enters into a new binding written contract (a “project contract”) under which it assigns its rights to certain components to an affiliated special purpose vehicle that will own the facility for which such property is to be used, work performed with respect to the master contract may be taken into account in determining when physical work of a significant nature begins with respect to the facility.
Solely for purposes of determining whether construction of a facility has begun for purposes of sections 45 and 48, if multiple facilities are operated as part of a single project (along with any property, such as a computer control system, that serves some or all such facilities) those facilities will be treated as a single facility. Whether multiple facilities are operated as part of a single project will depend on the relevant facts and circumstances. Factors indicating that multiple facilities are operated as part of a single project include, but are not limited to:
(a) The facilities are owned by a single legal entity;
(b) The facilities are constructed on contiguous pieces of land;
(c) The facilities are described in a common power purchase agreement or agreements;
(d) The facilities have a common intertie;
(e) The facilities share a common substation;
(f) The facilities are described in one or more common environmental or other regulatory permits;
(g) The facilities were constructed pursuant to a single master construction contract; and,
(h) The construction of the facilities was financed pursuant to the same loan agreement.
Only physical work of a significant nature on tangible personal property and other tangible property used as an integral part of the activity performed by the facility will be considered for purposes of determining whether a taxpayer has begun construction of a facility. This includes property integral to the production of electricity, but does not include property used for electrical transmission. Similarly, beginning construction of roads that are integral to the activity performed at the facility is physical work of a significant nature for purposes of beginning of construction, but construction of access roads is not.
Under the safe harbor, construction of a facility will be considered as having begun before January 1, 2014, if (1) a taxpayer pays or incurs five percent or more of the total cost of the facility, before January 1, 2014, and (2) thereafter, the taxpayer makes continuous efforts to advance towards completion of the facility. For property that is manufactured, constructed, or produced for the taxpayer by another person under a binding written contract with the taxpayer, costs incurred with respect to the property by the other person before the property is provided to the taxpayer are deemed incurred by the taxpayer when the costs are incurred by the other person. In determining whether the safe harbor has been met, all costs properly included in the depreciable basis of the facility are taken into account. Total cost does not include the cost of land or any property not integral to the facility.
The guidance provided in the IRS Notice is very similar to the guidance provided by the Treasury with respect to the beginning of construction for purposes of the 1603 grant (which provides payment for specified energy property in lieu of tax credits). One difference is that under the Notice, in addition to incurring five percent of the total cost, the safe harbor requires that there be “continuous efforts to advance towards completion of the facility.” The 1603 guidance did not have a similar requirement.