The U.S. Treasury Department has clarified when construction begins in
order to qualify for 1603 cash grants in lieu of tax credits.
Earlier this week, the U.S. Treasury Department released new guidance
related to the cash grant program under Section 1603 of the American
Recovery and Reinvestment Act of 2009. This guidance comes in the form
of a set of FAQs regarding the "beginning of construction" as it relates
to the grants.
Section 1603 provides a cash grant for placing in service certain
renewable energy property. One of the requirements under the program is
that the property be placed in service during 2009 or 2010, or placed
in service after 2010 (and before that property's credit termination
date) only if the construction of such property began
during 2009 or 2010.
On March 15, 2010, the Treasury revised its original 1603 grant
guidance to clarify the meaning of when construction has begun. The
FAQs are meant to further clarify the revised guidance; significant
points are summarized below.
the FAQs, the Revised Guidance
and the original
2009 Guidance, get additional
information on the cash grant program and learn about McDermott's
print coverage of the Revised Guidance.
Overview of the Section 1603 Grant Program
The 1603 grant program was enacted as part of the Recovery Act in
response to the downturn in the economy and the lack of potential
investors for renewable energy projects. The grants aim to stimulate
new investments into renewable energy projects by offering direct cash
payments instead of tax credits. 1603 grants for renewable
energy projects generally equal 30 percent of the project's cost basis.
Beginning of Construction
In order for property placed in service after 2010 to qualify for the
1603 grant, construction of the property must have begun during 2009 or
2010. There are two ways to show that construction has
begun: actual physical work of a significant nature and
satisfaction of the safe harbor by paying or incurring more than 5
percent of the total cost of the property. Work performed
by the applicant and by other persons under a binding written contract
is taken into account in determining whether construction has begun.
Physical Work of a Significant Nature
The FAQs reinforce the revised guidance's definition of "physical
work of a significant nature" by making clear that the property worked
on must be "specified energy property," as defined in related Treasury
regulations, which is limited to tangible personal property and other
tangible property used as an integral part of the qualifying project and
located at the site of the project. Although property used for
electrical transmission is generally not specified energy property, the
FAQs note that work on a transformer that steps up the voltage of the
electricity produced by the facility to the voltage needed for
transmission is work related to specified energy property because power
conditioning equipment is part of a qualified facility.
Pursuant to the revised guidelines, FAQs and the Treasury regulations
relating to the investment tax credit, construction of a building
generally will not qualify as physical work of a significant nature
because buildings are not specified energy property. However, the FAQs
make clear that two types of structures will be treated as specified
energy property: a structure that is essentially an item
of machinery or equipment, or a structure that houses property used as
an integral part of a qualified activity if the use of the structure is
so closely related to the use of the housed property that the structure
clearly can be expected to be replaced when the property it initially
houses is replaced. Thus, the construction of some
buildings may qualify as the beginning of construction.
Clearing land, obtaining permits and erecting a fence on the other hand
would not constitute the beginning of construction as such activities
are considered "preliminary work" under the FAQs.
Significantly, the FAQs clarify that work on only a small part of the
facility may constitute physical work of a significant nature. The
FAQs do not clarify what constitutes a "small part of the facility," but
imply that work on a single wind turbine might suffice.
However, the FAQs caution that the Treasury will closely scrutinize any
activity that does not involve a continuous program of
construction, or a contractual obligation to undertake and complete
within a reasonable time a continuous program of construction.
This implies that a delay in construction could be fatal to a project's
grant eligibility, though events beyond the applicant's control (e.g.,
weather disruptions) will be taken into account by the Treasury in
determining whether construction has been pursuant to a continuous
program. Query whether delays related to regulatory
approvals and obtaining financing would be problematic.
For work pursuant to a binding written contact, the FAQs explain that
work performed under the contract includes only work that takes places
after the binding written contract is entered into.
Additionally, work associated with components or parts that are in
existing inventory, or that are normally held in inventory by the
contractor, will not constitute the beginning of construction.
Work under the contract will be treated as physical work of a
significant nature only if it is work on property that will become
specified energy property of the applicant. For example,
if a contractor is manufacturing solar panels specifically for the
applicant under a binding written contract, any physical work on those
panels is physical work of a significant nature on specified energy
property of the applicant. If an applicant has a binding
written contract with a contractor who is manufacturing solar panels for
a number of customers, physical work on the panels would only be
considered work performed under the applicant's binding written contract
if the contractor can reasonably demonstrate that physical work has
started on panels that will become specified energy property of the
Finally, the FAQs make clear that if the specific site of the project
has not been identified at the time of the initial application this
will not impact whether or not construction has begun on the project.
Changes in the site of the project after the initial application will
similarly not impact whether or not construction has begun.
5 Percent Safe Harbor
Under the 2009 guidance, an applicant may satisfy the safe harbor
when the applicant incurs (in the case of an accrual basis applicant) or
pays (in the case of a cash basis applicant) more than 5 percent of the
total cost of the property. Although the references to
Code Section 461(h) were removed from the revised guidance, the FAQs
make clear that the economic performance rules under that Code Section
continue to apply in determining whether costs have been incurred.
There is one exception to the general principles that are used to
determine when amounts are incurred. Under the general rules for
property manufactured, constructed or produced for the applicant by
another person under a binding written contract that is entered into
prior to the manufacture, construction or production of the property,
for accrual basis taxpayers the cost of such property is "incurred" when
the property is provided to the applicant. The exception
is that for periods before the property is provided to the applicant,
costs incurred by the other person with respect to the property are
treated as costs of the property that are incurred by the applicant at
the time the costs are incurred by the other person. When
calculating the costs incurred by the other person, the applicant may
rely on a statement by the other person as to the costs incurred.
The exception does not apply to costs incurred by subcontractors of the
other party, meaning that contractor costs are only deemed incurred
upon delivery of the components produced by a subcontractor.
Notably, the FAQs specifically provide that if the applicant (or
contractor in the case of dealing with a subcontractor) reasonably
expects to be provided with the property within 3 and a half months of
the date of payment, the property will be deemed provided on the payment
date. Under the revised guidance and 2009 guidance, it was unclear
that this rule applied. The express inclusion of it
implies that the rest of the economic performance rules under the
Treasury regulations will also apply.
In addition, the FAQs make clear that to satisfy the 5 percent safe
harbor, an applicant must demonstrate that costs paid or incurred before
the end of 2010 are equal to or greater than 5 percent of the actual
total costs of the specified energy property.
Reasonable expected costs are not sufficient for this calculation.
If an applicant is uncertain of its total costs, an applicant may elect
to apply for a grant based on some, but not all, units of property if
its project includes multiple units.
The FAQs also indicate that the creation of a special-purpose vehicle
that will own the property and apply for the grant will not affect the
applicability of these rules even if the developer has entered into
binding written contracts with contractors and then assigned the rights
under those contracts to the special-purpose vehicle.
The clarification provided by the FAQs related to the safe harbor
summarized above may make meeting the safe harbor more palatable than
relying on the physical work standard and perhaps worth the additional
upfront expenses needed to reach the 5 percent threshold.
Process of Applying for the Grant
Lastly, the FAQs address when an applicant must submit an application
demonstrating that construction has begun. For property
that is placed in service after December 31, 2010, but before October 1,
2011, an applicant need only submit a single application demonstrating
both that construction began on the property in 2009 or 2010 and that
the property has been placed in service. For property that
is placed in service on or after October 1, 2011, applicants must
submit a preliminary application by October 1, 2011, demonstrating that
construction on the property began in 2009 or 2010. Such
applications must then be supplemented at the time the property is
placed in service.
For projects relying on "physical work of a significant nature,"
applicants must document the physical work with a written report.
For projects with an anticipated cost basis of $1 million or more, the
report must be from an independent engineer. To
demonstrate that physical work of a significant nature has commenced
under a binding written contract, applicants should submit a copy of the
binding written contract and a statement from the contractor describing
the work that has commenced.
For projects relying on the 5 percent safe harbor, applicants must
submit a statement from an authorized representative of the applicant,
signed under penalty of perjury, or for projects with an estimated
eligible cost basis of $1 million or more, from an independent
accountant, attesting to the method of accounting used by the applicant
for federal tax purposes (cash or accrual). For applicants that use the
cash method of accounting, the statement should state the amount that
has been paid before the end of 2010; give a detailed description of the
costs that have been paid and provide an estimate of the total cost of
the specified energy property, and must include evidence of payment,
such as invoices or other financial records. For
applicants that use the accrual method of accounting, the statement
should note the amount that has been incurred before the end of 2010;
provide a detailed description of the costs incurred and an estimate of
the total cost of the specified energy property, and must include
evidence of the costs incurred, such as invoices or other financial
records. If an applicant is relying on costs paid or
incurred by a contractor, a copy of the binding written contract and a
statement from the contractor, signed under penalty of perjury, of costs
paid or incurred and allocated to the applicant's project must be
The FAQs state that the Treasury will notify an applicant whether or
not the work performed is physical work of a significant nature, or
whether or not the safe harbor has been satisfied, after it has received
and reviewed the applicant's application demonstrating that
construction has begun.
Hayes Holderness, summer associate, also contributed to this
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