New final rules from the IRS, published March 11, 2024, provide clarity for not-for-profit organizations, Tribal governments, state and local governments, rural electric cooperatives, and other qualifying applicable entities to receive cash refunds of as much as 70% of the qualifying costs of eligible green energy projects under the Inflation Reduction Act.
This benefit is referred to within the industry as direct pay or a refundable tax credit, or what the IRS terms an elective payment.
Who Is Affected by IRC Section 6417?
Under Internal Revenue Code (IRC) Section 6417, applicable entities are eligible to take advantage of the direct pay provisions, and the final rules help clarify what entities qualify.
Generally, these include:
- Tax-exempt entities
- States or political subdivisions thereof and their instrumentalities
- Tennessee Valley Authority
- Federally recognized Tribes
- Alaska Native Corporations
- Cooperatives engaged in furnishing electric energy to people in rural areas
Other entities pursuing hydrogen fuel, carbon capture, and advanced manufacturing projects may also be eligible for a limited timeframe to receive direct pay.
Background on the Direct Pay Regulations
On June 21, 2023, the IRS and Treasury Department published proposed regulations to provide guidance on the direct payment of energy tax credits.
Comments on the proposed regulations were solicited, and, as a result, the final regulations further clarified certain aspects related to claiming the direct pay benefit.
In addition to publishing the final regulations, the IRS also updated its FAQ.
What Changes with IRC Section 6417 Final Regulations?
The final regulations largely adopt the proposed regulations, but numerous clarifications were made in response to the commentary received, which are outlined below.
Tax-Exempt Entities
IRC Section 6417 includes “any organization exempt from tax imposed by subtitle A” as an applicable entity. The proposed regulations limited applicable entities to those described in IRC Section 501(a), such as traditional 501(c)(3) tax-exempt entities.
The final regulations expand this definition to include any organizations described in IRC Section 501 through 530, such as certain homeowners’ associations, enabling more organizations to qualify as applicable entities.
Rural Electric Cooperatives
IRC Section 6417 provides that cooperatives providing electricity to persons in rural areas are applicable entities eligible for direct pay.
The commentary to the final regulations notes that tax-exempt electric cooperatives under IRC Section 501(c)(12) are already defined as applicable entities. The final regulations clarify that taxable rural electric cooperatives furnishing electricity to persons in rural areas are also applicable entities.
The commentary also notes that rural areas are defined as any area of the United States not included within the boundaries of any incorporated or unincorporated city, village, or borough having a population of more than 5,000.
Related Entities
Tribal Corporations
The proposed regulations provided that if a disregarded entity holds credit eligible property, the applicable entity owning the disregarded entity is eligible for direct pay.
The final regulations adopted this rule and clarified that Tribal corporations incorporated under Section 17 of the Indian Reorganization Act of 1934 or Section 3 of the Oklahoma Welfare Act that aren’t organized as separate entities for Federal tax purposes are disregarded entities.
Undivided Ownership Interests
The proposed regulations provided that if an applicable entity is a co-owner of credit eligible property through a tenancy-in-common or through an organization that has made a valid election not to be taxed as a partnership, then the applicable entity could make a direct pay election as to its interest in the credit eligible property.
As a result of the commentary submitted, the IRS released additional guidance on how unincorporated organizations can properly elect not to be treated as a partnership for purposes of claiming the direct pay benefit.
Partnerships and S-Corporations
The proposed regulations provided that partnerships and S-corps weren’t applicable entities and could only make a direct payment election for IRC Sections 45V, 45Q, and 45X credits. The commentary to the final regulations indicates that many comments to the proposed rule requested that applicable entities within a partnership be able to utilize the direct pay provision.
The final regulations didn’t adopt these comments and only provide for such arrangements to be eligible for direct pay if a valid election not to be treated as a partnership is properly made as outlined in the additional guidance discussed above.
Consolidated Groups
The proposed regulations allowed consolidated groups, of which an Alaska Native Corporation is the common parent, to qualify for direct pay. The final regulations broaden the rules with respect to consolidated groups to allow any consolidated group of which an applicable entity is the common parent to be eligible for direct pay.
Claiming the Direct Pay Benefit
Amended Returns and Superseding Returns
The final regulations adopt the proposed regulations' requirement that the direct pay election must be made on an original return but allow a taxpayer to correct a reporting error on an amended return, not later than the extended due date for the original return, for the taxable year for which the applicable credit is determined.
An example of a reporting error might be miscalculating the amount of the credit or fixing a typographical error when entering the registration number.
The commentary to the final regulations also discusses that some taxpayers might want to make a direct pay election on an original return but later file a superseding return, but before the extended due date of the return, to increase or decrease the amount of the direct pay election.
In that situation, the commentary indicates that the taxpayer would be treated as making a direct payment election at the time of filing the original return, but if a superseding return increases the amount of the direct pay election, then the taxpayer would be deemed to have filed the election on the date of the superseding return, however this could result in a delay in processing the additional amount.
Due Date of Returns
The direct pay provisions of IRC Section 6417 apply to tax years beginning after December 31, 2022. Thus, fiscal year filers who placed eligible property in service before the end of their fiscal year 2022 aren’t eligible for the direct pay election. For example, a filer with a fiscal year end of June 30, 2023, who placed property in service prior to June 30, 2023, would not be eligible for the direct pay election.
The final regulations provide that entities not required to file a tax return, such as Tribes or municipalities, may choose to elect a calendar year tax year, but such entities must keep adequate books and records, including, if applicable, a reconciliation of any difference between its chosen tax year and its fiscal year. Entities that have previously been required to file a tax return must continue to use their current tax year unless they file a request to change it.
Amount of the Credit
The final regulations adopt a no excess benefit rule if tax-exempt grants or forgivable loans are restricted for the purpose of acquiring energy property, then the amount of the grant or other funding plus the amount of the credit can’t exceed the value of the energy property.
The final regulations adopt this rule and clarify that the determination of whether a tax-exempt grant is restricted for the specific purpose of acquiring energy property is made when the grant is awarded.
Additionally, to prevent abuse of this rule, if a grant or other funding is awarded after the acquisition of energy property, it’s considered restricted if the approval of such funding was perfunctory and the amount was virtually assured at the time of the application.
Timing of Payment
Although not set forth in the final regulations, the updated FAQ indicates that, in general, entities that appropriately file for a direct pay election can anticipate payment to be issued within 45 days of the due date of the annual return.
Therefore, if an entity’s return is due on May 15 but is filed on March 15, the entity can anticipate payment within 45 days of May 15. In some cases, this may take more or less time.
The final regulations also make clear that in the case of taxpayers applying the direct pay to taxes owed, the payment is deemed to be made at the time of the filing of the original return.
Thus, the payment isn’t treated as a payment against estimated taxes. Examples applying these rules are included in the final regulations.
Registration of the Credit Property
The final regulations continue to require a pre-filing registration process for each applicable credit property. For taxpayers approaching their tax filing deadline, the commentary noted that the IRS will work to issue registration numbers even if the submission is made close to the deadline. However, those taxpayers should anticipate that their return may undergo heightened scrutiny to mitigate the risk of fraud and abuse.
Applicability of IRC Section 6417 Final Rules
The final rules apply to tax years ending on or after March 11, 2024.
Taxpayers with taxable years ending before March 11, 2024, may choose to apply the final rules provided they apply the rules in their entirety and in a consistent manner.
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For guidance on how to apply the final rules, contact your Moss Adams professional.
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