Further clarity could help unlock much needed investment for a significant number of delayed projects.


  • After a two-year delay, the IRS finally issues highly anticipated guidance regarding the carbon capture tax credit available pursuant to IRC Section 45Q.
  • The guidance follows previously issued guidance regarding similar tax credits available for wind and solar, which should provide a certain level of predictability and familiarity to investors.
  • The new carbon capture guidance is a necessary step, but one that is insufficient without further clarification on issues such as tax credit recapture and utilization.

On February 19, 2020, the Internal Revenue Service issued long anticipated guidance to help businesses understand how legislation passed in 2018 impacts those claiming carbon capture credits pursuant to Section 45Q. The guidance addresses the definition of "beginning of construction" and provides a safe harbor for partnership allocations of the credit. This guidance takes a first step toward accelerating slow-moving projects, with more detailed rules to come.


Carbon capture technology is designed to remove carbon dioxide, which traps heat, from exhaust, ambient air or other gas streams, thus reducing net emissions. Many oil-and-gas companies also inject carbon dioxide into the ground to help release additional oil, a process known as enhanced oil recovery. The tax credit is based on each metric ton of carbon oxide captured for the first 12 years of the operation of the carbon capture equipment. The dollar amount of the tax credit depends on what is done with the carbon oxide and when the equipment is placed in service, but the amount varies from $10 to $50 per metric ton.

After the enactment of the Bipartisan Budget Agreement in February 2018, the IRS issued Notice 2019-32 requesting comments from taxpayers regarding the changes to the carbon capture credit in the new law. Developers have been slow to announce projects, as the IRS has taken more than two years to determine how to implement the new tax credit program. Last month, the Energy Department's top fossil energy official said there were "billions of dollars" of projects waiting on the IRS to issue guidance.

Section 45Q offers different incentives according to the type of carbon capture project. The largest credit, worth up to $50 per metric ton, is available for projects where carbon dioxide is captured and securely stored underground. This includes saline storage, which involves pumping the gas into brine or saltwater formations deep below the Earth's surface. Enhanced oil recovery is a method that involves injecting carbon dioxide into existing oil reservoirs to create pressure to push oil to the surface. It is eligible for a smaller credit, worth up to $35 per ton.

New Guidance Provided

The "commence construction" and partnership guidance largely mirror prior rules for other energy tax credits for wind and solar with some adjustments for the carbon capture industry, while also borrowing some concepts from prior IRS guidance regarding rehabilitation credits.

Notice 2020-12: Beginning of Construction

In Notice 2020-12, the IRS provides guidance to help businesses determine when construction has begun on a qualified facility or on carbon capture equipment that may be eligible for the carbon capture credit. The Notice 2020-12 start of construction guidance is generally consistent with the guidance in Notice 2018-59 (that applies to the solar projects) and Notice 2013-29 (that applies to wind projects). As with prior solar and wind guidance, taxpayers can demonstrate construction has begun for purposes of Section 45Q by beginning significant physical work or incurring at least five percent (5%) of the total project cost.

Companies must make continuous progress on their projects once they start construction to get the credit later when they start capturing carbon. The guidance provides a six-year continuity safe-harbor period. The safe-harbor period is an increase from the four-year safe harbor for wind and solar projects. The begun construction deadline for carbon capture is not later than 2023, which means that those projects could not be operational until 2029 and still meet the deadline.

Revenue Procedure 2020-12: Partnership Allocation Safe Harbor

Revenue Procedure 2020-12 provides a safe harbor for partnership tax equity transactions. Partnership flip transactions are common structures used in the wind and solar markets. Under that transaction a tax-equity investor and a project developer form a partnership to own and operate a project. The investor is allocated 99% of all income, loss and tax credit until it achieves a target return, at which point the partnership "flips" and the investor's share drops to 5%.

The revenue procedure is conceptually modeled after the guidance for wind flip partnership transactions in Revenue Procedure 2007-65 with some key differences, including the certain concepts borrowed from the rehabilitation tax credit safe harbor in Revenue Procedure 2014-12.  

Some of the key differences from the wind guidance are as follows:

  1. Increase in Allowable Amount of Contingent "Paygo" Contributions
    The investor may make up to half of its capital contributions on a pay as you go basis (commonly referred to as a "paygo structure") based on the amount of carbon captured. This is more lenient than wind partnership guidance that only permits 25 percent of payments to be subject to the performance.
  2. No Call Options Allowed, Only Investor Put Options
    The tax equity investor may have the right to "put" its partnership interest at a price equal to then fair market value, but the developer may not have a "call" option over the investor's interest. This construct is consistent with the safe harbor for rehabilitation tax credits but is in contrast to the wind guidance that only permitted the developer to have a "call" option over the investor's interest. It is unclear why the IRS prefers to allow put options under Revenue Procedure 2020-12, as opposed to call options, when the operation of the Section 45Q credit and the flip partnership structure outlined in the guidance seem far more similar to the wind farm transaction outlined in Revenue Procedure 2007-65.
  3. Contracts with Guaranteed Revenue Streams Permitted
    In general, under the guidance, no person involved with the partnership may guarantee an investor's ability to claim the carbon credit. The guidance does, however, allow arm's-length, carbon purchase agreements to provide for guaranteed payments, even if the contracting counterparty is a related party. This is a departure from the wind guidance that prohibits similar related party arrangements. Allowing these sorts of arrangements will allow greater flexibility for developers to provide credit enhancements to spur investment in carbon capture projects.
  4. New Concepts Borrowed from Rehabilitation Credit Guidance
    In addition to the Put/Call option issue, Revenue Procedure 2020-12 borrows certain other concepts from Revenue Procedure 2014-12 that were not included in the wind guidance. These concepts include: a) not allowing the tax equity investor's return to be capped in a manner comparable to a preferred return representing a payment for capital; b) language preventing the use of unreasonable fees; and c) a provision that the tax investor's contributions must constitute a "bona fide equity investment" with value commensurate with the Investor's overall investment, separate from any tax benefits.

    The application of these provisions borrowed from the rehabilitation credit guidance may inject a certain level of uncertainty into the carbon capture safe harbor because the practical application of some of those provisions has not been particularly well defined in the prior guidance. Moreover, in some circumstances, differences between a carbon credit transaction structure and a rehabilitation credit transaction structure may make it challenging to fully analogize to the facts and examples provided in the prior rehabilitation credit guidance.

Significant Unresolved Issues Remain

While this guidance takes a first step, it still leaves many unresolved issues.

In particular, investors and developers want to know when they'll be required to return credits they've received if there's a stored carbon dioxide leak. They're hoping the IRS will provide exceptions to the recapture provision in cases, for example, where the leak is the result of an event that's out of the taxpayer's control, such as an earthquake or other natural disaster. There is also the question of whether the recapture period will be capped, such as the recapture period for the investment tax credit used for solar projects, or if the credit could be recaptured for an indefinite period into the future. While Revenue Procedure 2020-12 allows taxpayer to procure third-party recapture insurance, such insurance would typically only cover a fixed period.

The industry also wants clarity on what qualifies as "secure geological storage." The IRS asked in a 2019 notice whether criteria beyond those required by the U.S. Environmental Protection Agency should be considered.

Additionally, the guidance does not fully address "utilization" of captured carbon. The Internal Revenue Code allows a carbon credit for "utilization" of carbon for "any ... purpose for which a commercial market exists, as determined by the Secretary." Until the IRS provides more guidance, companies wanting to claim credits for converting carbon dioxide into products, referred to as beneficial use or utilization, would not know how to calculate how much carbon dioxide emissions are being reduced through their projects.

Further Guidance Anticipated

The IRS anticipates issuing further guidance in the near future, including on secure geological storage, utilization and recapture of the credit. Notably, pursuant to Section 45Q, authority to provide guidance on recapture is delegated to the Treasury Department, which suggests only a regulation can address it. The issuance of formal regulations is more involved than issuing an IRS Notice, which could help explain the additional delay. That said, further guidance is supposed to be imminent.

One thing to consider, however, is that a group of House Republicans recently introduced legislation that would make the 45Q tax incentives permanent as part of a broader climate strategy pushed by Minority Leader Kevin McCarthy. While it seems unlikely that such potential legislation would impact the timeline of future guidance, there have been instances where the IRS has delayed certain guidance in anticipation of potential legislative changes. If the legislation gains significant traction, it could be something worth watching.


The industry should welcome this new guidance, since it did not contain any significant surprises, and generally provides clear guideposts that follows past precedent. Additionally, the IRS included certain positive modifications to prior guidance provided on other credits, taking into account the challenges of constructing carbon capture projects (such as providing for an extended six-year safe harbor period). 

That said, while this carbon capture guidance is a necessary step, it is one that is insufficient without further clarification on issues such as tax credit recapture and utilization. While there must be relief within the industry that progress is being made, it is unclear whether any of the "billions of dollars" of projects waiting on the IRS guidance will be able to move forward without guidance on the remaining unresolved issues.

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