Energy Tax Implications of the Administration’s FY2022 Budget Tax Proposals

On May 28, 2021, the Biden administration (the “Administration”) released its FY2022 budget (the “Budget”), which includes proposed investments related to infrastructure, clean energy and research and development. Alongside the Budget, the US Department of the Treasury released the General Explanations of the Administration’s FY2022 Revenue Proposals (the “Greenbook”), which contains explanations of the Administration’s revenue proposals included in the Budget. Overall, the Budget (as explained in the Greenbook) contains numerous tax proposals, many of which could impact the energy and renewables industry. As described in more detail below, the Administration’s proposals, if enacted, would “eliminate all fossil fuel subsidies that linger in the [Internal Revenue] Code, while substantially expanding tax incentives that encourage clean energy sources, energy efficiency, carbon sequestration, and electric vehicle adoption.”¹ Unless otherwise noted, the natural resource-related provisions and renewable and alternative energy provisions would, if enacted, be effective for taxable years beginning after December 31, 2021.

General provisions

• Raise the corporate income tax rate to 28% (from 21%) for taxable years beginning after December 31, 2021. For taxable years beginning after January 1, 2021, and before January 1, 2022, the tax rate would be equal to 21% plus 7% times the portion of the taxable year that occurs in 2022.
• Revise the global minimum tax regime (including, among other things, the addition of a 15% minimum tax on worldwide book income for corporations with such income in excess of $2 billion), disallow deductions attributable to exempt income and limit inversions.
• Increase the top marginal rate for individuals to 39.6% for taxable years beginning after December 31, 2021.
• Treat certain carried interests as ordinary income for taxable years beginning after December 31, 2021.
• Tax capital income for high-earners at ordinary income rates for gains required to be recognized “after the date of announcement.” What date that means is currently unclear, as it could mean the date the Budget was released or the date that the American Families Plan was outlined in April 2021. The effective date could change as part of the Budget reconciliation process.
• Largely repeal the deferral of gain from like-kind exchanges (with limited exceptions) for exchanges completed in taxable years beginning after December 31, 2021.

Natural resource-related provisions

• Reform taxation of foreign fossil fuel-related income. The Budget would repeal the exemption from global intangible low-taxed income for foreign oil and gas extraction income (“FOGEI”). The definition of FOGEI and foreign oil-related income (“FORI”) would also be amended to include income derived from shale oil and tar sands activity. Additional changes would apply with respect to a dual capacity taxpayer (i.e., a taxpayer that is subject to a foreign levy and that also receives a specific economic benefit from the levying government). The Greenbook provides that “foreign hydrocarbon income should not be eligible for preferential tax treatment relative to other industries in light of the negative externalities associated with such income and the Administration’s overall goal of promoting clean energy.”
• Repeal the Section 43² enhanced oil recovery credit for eligible costs attributable to a qualified enhanced oil recovery project.
• Repeal the Section 45I tax credit for oil and gas produced from marginal wells.
• Repeal Section 263(c) insofar as it provides for the expensing of intangible drilling and development costs.
• Repeal the Section 193 deduction for costs paid or incurred for any tertiary injectant used as part of a tertiary recovery method.
• Repeal the Section 469(c)(3) exception to the passive loss limitations provided to working interests in oil and gas properties.
• Repeal the use of percentage depletion with respect to oil and gas wells under Section 613A.
• Repeal the two-year amortization of independent producers’ geological and geophysical expenditures under Section 167(h), instead allowing amortization over the seven-year period used by certain integrated oil and gas producers.
• Repeal the expensing of exploration costs (Section 617) and development costs (Section 616).
• Repeal the use of percentage depletion for hard mineral fossil fuels under Section 613.
• Repeal capital gains treatment for royalties received on the disposition of coal or lignite under Section 631(c).
• Repeal the exemption (Section 7704) from corporate income tax for publicly traded partnerships with qualifying income and gains from activities relating to fossil fuels. If enacted, the repeal would be effective for taxable years beginning after December 31, 2026.
• Repeal the Oil Spill Liability Trust Fund (“OSLTF”) excise tax exemption for crude oil derived from bitumen and kerogen-rich rock.
• Repeal the accelerated amortization for air pollution control facilities.
• Repeal (with limited exceptions for smaller exchanges) the ability to defer taxation on a like-kind exchange of real property (which could include working interests, royalties and other “real property”).
• Reinstate the three Superfund excise taxes at double the previous rates for periods beginning after December 31, 2021, and through December 31, 2031. In addition, the Budget would extend the Superfund excise tax on domestic crude oil and imported petroleum products to other crudes such as those produced from bituminous deposits as well as kerogen-rich rock. To support the OSLTF, the Budget would also extend the OSLTF tax to include crudes such as those produced from bituminous deposits as well as kerogen-rich rock. Finally, the eligibility of the OSLTF for drawback would be eliminated.

Renewable and alternative energy provisions

• Related to the Section 45 PTC:
  • Extend the Section 45 production tax credit (PTC) at the full credit rate for wind and other resource generation. The Budget would extend the PTC for qualified facilities commencing construction after December 31, 2021, and before January 1, 2027, phasing the PTC out as follows (prior to inflation adjustments):
    • Beginning of construction (BOC) in 2022-2026: 100% (1.5¢/kilowatt hour (kWh)).
    • BOC in 2027: 80% (1.2¢/kWh).
    • BOC in 2028: 60% (0.9¢/kWh).
    • BOC in 2029: 40% (0.6¢/kWh).
    • BOC in 2030: 20% (0.3¢/kWh).
    • BOC in 2031 or later: No PTC.
  • Give taxpayers the option to elect a cash payment in lieu of the PTC (the so-called “direct pay” option).
• Related to the Section 48 ITC:
  • Restore the Section 48 investment tax credit (ITC) at the full credit rate for solar and other property. The Budget would restore the ITC at the 30% level for eligible property that begins construction after December 31, 2021, and before January 1, 2027, phasing the credit out as follows:
    • BOC in 2022-2026: 30% ITC.
    • BOC in 2027: 24% ITC.
    • BOC in 2028: 18% ITC.
    • BOC in 2029: 12% ITC.
    • BOC in 2030: 6% ITC.
    • BOC in 2031 or later: No ITC.
  • Starting in 2022, expand Section 48 to include stand-alone energy storage technology that stores energy for conversion to electricity and has a capacity of not less than five kilowatt hours.
  • Give taxpayers the option to elect a cash payment in lieu of the ITC (i.e., a direct pay option).
• Create a new credit for transmission property. The Budget would provide a credit equal to 30% of a taxpayer’s investment in qualifying electric power transmission property placed in service in a given year. Qualifying electric power transmission property would include overhead, submarine and underground transmission facilities meeting certain criteria, including a minimum voltage of 275 kilovolts and a minimum transmission capacity of 500 megawatts. Taxpayers would have the option to elect a cash payment in lieu of the tax credits (the so-called “direct pay” option). If enacted, this credit would be effective for property placed in service after December 31, 2021, and before January 1, 2032.
• Revive and expand Section 48C credits for qualifying advanced energy manufacturing. The Budget would authorize an additional $10 billion of credits for investments in eligible property used in a qualifying advanced energy manufacturing project, at least $5 billion of which would be specifically allocated to projects in coal communities. This would be the first new authorization of funds for Section 48C credits since the allocations awarded in November 2013. A qualifying advanced energy project includes manufacturing facilities for the production of solar, wind, geothermal or other renewable energy equipment; electric grids and storage for renewables; fuel cells and microturbines; energy storage systems for electric or hybrid vehicles; carbon dioxide capture and sequestration equipment; equipment for refining or blending renewable fuels; equipment for energy conservation, including lighting and smart grid technologies; and other advanced energy property designed to reduce greenhouse gas emissions as may be determined eligible by the Treasury Department. The Budget would expand the list of qualifying energy projects to also include industrial facilities, facilities for recycling (rather than only production), and expanded eligible technologies, including energy storage and components, electric grid modernization, carbon oxide sequestration and energy conservation technologies.
• Provide a credit for medium- and heavy-duty zero-emission vehicles. The Budget would provide a business tax credit for new medium- and heavy-duty zero-emission vehicles, including battery electric vehicles and fuel cell electric vehicles, similar to the Section 30D tax credit. Taxpayers would have the option to elect a cash payment in lieu of a general business credit (the so-called “direct pay” option).
• Implement a low-carbon hydrogen production tax credit. For the purposes of the Budget, “low-carbon” refers to hydrogen produced using zero-carbon emissions electricity (renewables or nuclear) and water as a feedstock or hydrogen produced using natural gas as a feedstock and with all carbon emitted in the production process captured and sequestered. The credit would apply to each kilogram of qualified low-carbon hydrogen (1) produced by the taxpayer; (2) for an end use application in the energy, industrial, chemicals or transportation sector; and (3) from a qualified low-carbon hydrogen production facility during the six-year period beginning on the date the facility was originally placed in service. The credit would be indexed annually for inflation measured after the facility is placed into service, based on the initial amount of $3.00 per kilogram of hydrogen between 2022 and 2024 and $2.00 per kilogram between 2025 and 2027. Taxpayers would have the option to elect a cash payment in lieu of the tax credits (the so-called “direct pay” option). The hydrogen may be sold to an unrelated third party, or, if directly consumed by the taxpayer that owns the facility, the production must be independently verified. Construction of a qualified facility must have begun before the end of 2026 for the facility to be eligible for the low-carbon hydrogen production tax credit.
• Expand and extend the Section 45Q carbon capture use and sequestration credit. The Budget would extend the “commence construction” date by five years, such that qualified facilities must begin construction by January 1, 2031. The Budget would provide an enhanced credit for carbon oxide captured from hard-to-abate industrial carbon oxide capture sectors such as cement production, steelmaking, hydrogen production and petroleum refining. The enhanced credit would provide an additional $35 per metric ton of qualified carbon oxide for qualified carbon oxide that is captured from such sources and is disposed of in secure geological storage but would not apply to ethanol, natural gas processing or ammonia production facilities. The amount of the $35 per-ton additional credit does not change each year. The total per-ton credit for these projects would be $85 in 2026. The Budget would also provide an enhanced credit for direct air capture projects equal to an additional $70 per metric ton of qualified carbon oxide for qualified carbon oxide that is disposed of in secure geological storage. The amount of the $70 per-ton additional credit does not change each year. The total per-ton credit for direct air capture projects with secure geological storage would be $120 in 2026. Further, taxpayers would have the option to elect a cash payment in lieu of the carbon sequestration credit (the so-called “direct pay” option).
• Enhance the tax credit for electric vehicle charging stations. The Budget would modify and expand the 30% tax credit for electric vehicle charging stations. The Budget would allow taxpayers to claim the tax credits on a per-device basis, increases the tax credit limit on individual devices to $200,000 and extends the tax credit for five years through December 31, 2026. Taxpayers would have the option to elect a cash payment in lieu of the general business tax credits (the so-called “direct pay” option).

Under the proposals, a number of the aforementioned tax credits would also be paired with strong labor standards, which are intended to benefit employers that provide “good-paying and good-quality jobs.”³

Taxpayers should carefully monitor the Budget and evaluate the impact that the proposals could have on investments, operations and strategic decisions.

¹ Greenbook, p. 1.

² All “Section” references herein are to the Internal Revenue Code of 1986, as amended, unless otherwise stated.

³ The Clean Energy for America Act, which was advanced on May 26 by the Senate Finance Committee, would incorporate prevailing wage and other labor requirements into its renewable tax credit proposals, and it is possible that the labor standards referred to in the Budget may include similar changes.