Final Direct Pay Regulations Released

Simultaneously, Treasury and the Service released both proposed regulations (REG-101552-24) under Code section 761(a) that would permit entities that co-own renewable energy projects to elect out of partnership tax status if certain requirements are satisfied (the “Proposed 761 Regulations”)³ and final regulations regarding the direct pay election for the tax credit available under Code section 48D.⁴

The Final Direct Pay Regulations generally adopt the temporary and proposed regulations released in June; however, some of the more notable modifications (or lack thereof) included in the Final Direct Pay Regulations are highlighted below:

Eligibility for an Elective Payment Election

• The Final Direct Pay Regulations maintain that a partnership is generally ineligible to make an elective payment election regardless of the number of partners of such partnership that are applicable entities. However, in an unexpected turn of events, Treasury and the Service issued the Proposed 761 Regulations, which provide a viable path for applicable entities to co-own, though unincorporated organizations, certain direct pay eligible projects.⁵ The Proposed 761 Regulations would generally permit a full or partial election out of partnership treatment if four requirements are satisfied:
  • (1) the unincorporated organization must be at least partially owned by an applicable entity;
  • (2) the members of the organization must enter into a joint operating agreement with respect to the applicable credit property in which they reserve the right to take in kind or dispose of their pro rata shares of the electricity produced, extracted, or used or any associated renewable energy credit or similar credits;
  • (3) pursuant to the joint operating agreement, the organization must be organized exclusively to jointly produce electricity from its applicable credit property and with respect to which one or more of certain applicable credits is determined; and
  • (4) one or more member that is an applicable entity must make an elective payment election under Code section 6417(a) for the applicable credits determined with respect to its share of the applicable credit property.
• Consistent with the proposed direct payment regulations, applicable entities that purchase a credit under Code section 6418 may not elect direct pay for such credits (that is, “chaining”). However, the Final Direct Pay Regulations note that nothing in Code sections 6417 or 6418 explicitly prohibits chaining. While Treasury and the Service have expressed concerns regarding administrability and potential for fraud with chaining, they have requested taxpayer comments (see Notice 2024-27) as they further consider potential chaining rules.
• The Final Direct Pay Regulations provide that a non-applicable entity that is a member of a consolidated group parented by any type of applicable entity (not just one parented by an Alaska Native Corporation as contemplated by the proposed direct pay regulations) may qualify as an electing taxpayer eligible to make an elective payment election with respect to a credit determined under Code sections 45V, 45Q, or 45X based on its own corporate status.
• The Final Direct Pay Regulations provide that the applicable entity or electing taxpayer must both own the underlying applicable credit property and conduct the activities giving rise to the applicable credit or, in the case of a section 45X credit for which ownership of applicable credit property is not required, to be considered (under the section 45X regulations) the taxpayer with respect to which the section 45X credit is determined. That is, with respect to all of the applicable credits with the exception of the section 45X credit, ownership of qualified property is required.
• When credit pass through elections are made (pursuant to Code section 45Q(f)(3) or 50(d)(5)), the Final Regulations confirm that the transferee of the credit is not eligible to make a direct pay election, because the transferee is not the taxpayer with respect to which the credit is determined. However, the lessor of the property in a sale-leaseback transaction under Code section 50(d)(4) would be eligible to make a direct pay election, as the applicable credit is determined with respect to applicable credit property owned and treated as originally placed in service by the lessor.

Election on Tax Return

• Although the Final Direct Pay Regulations continue to require the direct pay election to be made on an original return (that is, the election cannot be made for the first time on an amended return, withdrawn on an amended return, or made or withdrawn by filing an administrative adjustment request), the Final Direct Pay Regulations provide that numerical errors may be corrected on an amended return or administrative adjustment request, so long as the change is to a substantive item (that is, a taxpayer may not correct a blank item or an item that is described as being “available upon request”).
• The Final Direct Pay Regulations clarify that the registration number must be included on both Form 3800 and any required source credit form(s) with respect to the applicable credit property.

“No Excess Benefit” Rule

• The Final Direct Pay Regulations clarify the application of the “no excess benefit” rule — which provides that the applicable credit amount is reduced if the sum of “restricted tax exempt amounts” and the applicable credit exceed the cost of the applicable credit property — by:
  • Providing that the determination whether a tax exempt grant is made for the specific purpose of purchasing, constructing, reconstructing, erecting or otherwise acquiring an investment-related credit property is made at the time the grant is awarded;
  • Explaining that a grant awarded after acquisition of the property is generally not a restricted tax exempt amount unless the approval of the grant was mechanical and the amount was virtually assured at the time of the application; and
  • Noting that unrestricted funds are not treated as “restricted tax exempt amounts.”

Denial of Double Benefit

• Responding to taxpayer concerns that the ordering rules would reduce the benefit of direct payment if the taxpayer could have used non-applicable general business credits to reach the Code section 38(c) limitation on credits, the Final Direct Pay Regulations change the ordering of the steps and the calculation of the “net elective payment amount” (that is, the net amount paid in cash if a direct payment election is made). Under the Final Direct Pay Regulations, the net elective payment amount is the lesser of (x) the aggregate of all applicable credits or (y) the total general business credit (including applicable credits) less the total general business credit allowed against tax liability (that is, for which a direct payment is not made), as determined under Code section 38(c).
  • These revisions ensure that taxpayers making a direct pay election will not have to delay using non-applicable general business credits because of an applicable credit.