IRA Guidance Watch: IRS Issues Section 48 ITC Proposed Regulations Updating for IRA Changes

On November 17, 2023, the Internal Revenue Service (the “IRS”) issued proposed regulations (the “Proposed Regulations”) updating treasury regulations under Section 48 of the Internal Revenue Code of 1986, as amended (the “Code”), regarding investment tax credits (“ITCs”) for renewable energy projects, to account for changes made under the Inflation Reduction Act of 2022 (the “IRA”).1 The Proposed Regulations principally focus on defining “energy property” for purposes of Section 48 the Code in light of the expansion of the types of property eligible to claim such ITCs under the IRA. While a substantial portion of the Proposed Regulations integrate already outstanding guidance from prior regulations, notices and revenue procedures, they also provide new and useful guidance on the scope of property eligible for ITCs, how an “energy project” is identified for purposes of the prevailing wage and apprenticeship requirements (“PWA Requirements”), domestic content adder and energy community adder, and hydrogen storage property.

Taxpayers may generally rely on the Proposed Regulations with respect to property that is placed in service after December 31, 2022 and during a taxable year beginning on or before the date final regulations are published in the Federal Register, provided that the taxpayer (and all related persons) apply the Proposed Regulations in their entirety and in a consistent manner. 


Section 48 of the Code establishes a technology-dependent investment tax credit equal to 30% of the basis of eligible energy property where the PWA Requirements are met (or 6% if not met). Additional 10% adders are available if the project incorporating such energy property (a “project”) meets certain domestic content requirements or if the project is located in an “energy community,” which could take ITCs up to 50% of the basis of eligible property if both adders are available. A narrow group of energy facilities will be eligible for a further 10% adder based on location in low-income communities or on Native American land, and that adder increases to 20% if it is part of a qualified low-income residential building project or a qualified low-income economic benefit project (up to a maximum of 70% of eligible basis if a project were to meet all requirements of the adders).

Energy property eligible for ITCs under Section 48 of the Code includes certain equipment that uses solar or geothermal energy, fuel cell property or microturbine property, combined heat and power system property, small wind energy property, equipment using groundwater as a thermal energy source, waste energy recovery property, energy storage property, qualified biogas property, and microgrid controllers. Certain requirements are generally applicable to all energy property under Section 48 of the Code, including that (1) the property either be (a) constructed, reconstructed or erected by the taxpayer or (b) acquired by the taxpayer and the original use of which commences with the taxpayer, (2) depreciation be allowable for the property, and (3) performance and quality standards established by the Treasury Department be met. Further, energy property does not include property that is part of a renewable energy facility that claims production tax credits under Section 45 of the Code (“PTCs”). In addition, except for equipment using groundwater as a thermal energy source, the construction of energy property must begin before January 1, 2025 to be eligible for credits under Section 48 of the Code, before the ITC shifts to a technology-neutral clean energy credit under Section 48E of the Code.

Scope of Property Eligible for Section 48 ITCs – Functionally Interdependent Components and Integral Parts

One of the key issues that the Proposed Regulations provide guidance on is the scope of components of an energy facility that are includible within the definition of “energy property.” The Proposed Regulations generally rely on a functional interdependence standard for establishing component units of a facility that are treated as energy property. Under this standard, “functional interdependence” is established where the placing in service of each such component is dependent upon the placing in service of other components that are necessary for the project to generate or store electricity, thermal energy or hydrogen, or otherwise perform its intended function up to, but not including, the stage that transmits, distributes or uses the electricity or thermal energy. The Proposed Regulations include an example for an offshore wind facility where the turbines, inter-array cables, offshore substation, subsea cables and onshore substation are all identified as functionally interdependent components for the generation of electricity leading up to the point of interconnection that are each necessarily placed in service together and, therefore, each treated as energy property.

Functionally interdependent components of energy property that are operated together but that cannot operate independently from one another constitute “units of energy property.” A taxpayer can only claim an ITC with respect to functionally interdependent components if the taxpayer owns an interest in an entire unit of energy property. By contrast, if a taxpayer owns a functionally interdependent component of energy property but such component is not an entire unit of energy property, the component is not eligible for an ITC in the hands of the taxpayer. Under the example of an offshore wind facility mentioned above, a taxpayer that owns all the components would be entitled to claim an ITC but a taxpayer that only owned the subsea cables connecting the offshore substation to the onshore substation would not be able to claim an ITC even though such subsea cable is functionally interdependent with the other components of such energy project since, according to the example, such cables would not themselves constitute an entire unit of energy property.

The Proposed Regulations identify another category of property –“integral parts” of energy property– that consists of property that is not a functionally interdependent part of the energy generation or storage process but is owned by the same taxpayer that owns a unit of energy property. Property that is considered an integral part of energy property can be considered energy property if used directly in the intended function of energy property and essential to the completeness of the intended function. The Proposed Regulations set forth a non-exclusive list of integral parts property including power and conditioning equipment (e.g., transformers, inverters, converters, switches, circuit breakers, arrestors, wires and cables, combiner boxes, and hardware and software used to monitor, operate, and protect power conditioning or transfer equipment) as well as roads used for equipment to operate and maintain the energy property. Access roads, by contrast, would not be viewed as integral parts of an energy property.

The Proposed Regulations also specifically identify that power purchase agreements, renewable energy certificates, goodwill and going concern value are not included within the scope of energy property. The specific identification of such assets, which would be expected to be part of a project company’s assets at the time its energy property is placed in service, may indicate the IRS’ desire to challenge excessive allocations of purchase price to energy property where a project company is sold in a taxable transaction shortly before being placed in service to increase the tax basis eligible for ITCs. 

Energy Property Constituting an “Energy Project”

Under Section 48 of the Code, the PWA Requirements, domestic content adder, and energy community adder are each applied at the level of the “energy project” rather than to individual items of energy property eligible for the ITC. The statutory language defines an “energy project” as a project consisting of one or more energy properties that are part of a single project. The Proposed Regulations provide that energy properties will be treated as part of the same energy project where such energy properties are owned by a single taxpayer or related taxpayers, if two or more of following factors are present:

  1. The energy properties are constructed on contiguous pieces of land; 
  2. The energy properties are described in a common power purchase, thermal energy, or other off-take agreement or agreements;
  3. The energy properties have a common intertie; 
  4. The energy properties share a common substation, or thermal energy off-take point; 
  5. The energy properties are described in one or more common environmental or other regulatory permits; 
  6. The energy properties are constructed pursuant to a single master construction contract; or 
  7. The construction of the energy properties is financed pursuant to the same loan agreement.

“Related taxpayers” for purposes of determining whether energy properties may be aggregated into a single energy project include members of a group of trades or businesses under common control, as defined in Treasury Regulations Section 1.52-1(b).2 Further, if multiple energy properties rely on common circumstances for establishing the beginning-of-construction date, such energy properties are also part of one energy project. 

Hydrogen Storage

The IRA expanded the scope of energy property eligible for ITCs to include property that is part of a clean hydrogen production facility. The qualification of hydrogen production facilities for ITCs has generated substantial interest, but a key question that has arisen from developers and project sponsors is whether equipment that converts hydrogen to ammonia for storage or transportation would qualify as energy property eligible for ITCs. The Proposed Regulations note that numerous taxpayers requested guidance identifying that equipment converting hydrogen to ammonia would qualify as energy storage technology. The IRS tacitly consented to such characterization, identifying that the statute does not include any limit on the particular type of hydrogen storage medium and adopting neutral language as to hydrogen storage property treated as energy property under the Proposed Regulations. The preamble to the Proposed Regulations did make particular note to highlight that any such storage medium must be used exclusively to store the hydrogen for use in the production of energy as the end product, making clear that substantiation would be needed to evidence that hydrogen converted into ammonia went on exclusively to an end use in energy production and not, for example, inclusion in fertilizer.

Additional Points of Note

Further notable guidance from the Proposed Regulations includes:

  • The sharing of power conditioning and transfer equipment between a facility that claims PTCs and energy storage property will not negatively impact the ability to claim ITCs with respect to the energy storage property.
  • The exclusion of passive solar energy systems from energy property eligible for ITCs would be eliminated.
  • Clarification that recapture triggered by a failure of the PWA requirements is a yearly determination, the base credit amount of 6% is not subject to recapture from such a failure, and the recapture percentage for the PWA requirement multiplier decreases ratably over the five-year recapture period for each year that the PWA requirements are satisfied.
  • Dual use property rules –regarding property that uses energy derived both from qualifying sources and non-qualifying sources– have been made more lenient requiring that only 50% (rather than 75%) be qualifying inputs and providing that two or more qualifying inputs can be aggregated for purposes of determining the percentage of basis eligible for the ITC.
  • Co-ownership arrangements of energy property do allow each of the co-owners to claim ITCs in respect of their ratable share of eligible basis; however, each such owner must own an entire unit of energy property and not, as noted above, only property that is merely an integral part of energy property.

1 Reg-132569-19, RIN 1545-BO40. 

2 This standard for common control includes parent-subsidiary chains with greater than 50% ownership, brother-sister groups with five or fewer persons that collectively own more than 80% of each member and have over 50% identical overlapping ownership, or a combination of parent subsidiary and brother-sister ownership in a group of three or more businesses.