The Inflation Reduction Act of 2022 (IRA) created several new tax incentives to encourage the development of clean energy projects that would benefit specific communities. Among these incentives, Congress included a tax credit adder for the production tax credit (PTC) and investment tax credit (ITC) for projects in “energy communities.” The energy community adder gives a 10% multiplier to a project’s PTC value and a potential 10% addition to the ITC rate. On April 4, 2023, the IRS released Notice 2023-29 to outline the rules for claiming the energy community enhanced tax credits under Internal Revenue Code Sections 45, 45Y, 48 and 48E.

Energy Community Adder Explained

The energy community adder is subject to the IRA’s prevailing wage and apprenticeship (PWA) requirements to the PTC and ITC, but the effect has a distinct application to the different credits. Regardless of whether a PTC project has complied with the PWA requirements, the energy community adder gives a 10% multiplier to a project’s PTC value; however, noncompliance with PWA means the value of the PTC decreases by 80%, and thus, the energy credit multiplier applies to the decreased PTC amount. For an ITC project, the energy community adder is an increase to the credit itself, meaning the adder and the ITC are equally decreased by 80% if the PWA requirements are not met — thus, a 10% bonus to a 30% ITC would drop to a 2% bonus to a 6% ITC. If a project is entitled to a PWA exemption because it is under 1 MW or began construction before Jan. 29, 2023, the full 10% energy community adder will apply.

Identifying an Energy Community

Energy communities include:

  1. Brownfield sites defined under federal law at 42 U.S.C. § 9601(39)(A);
  2. “statistical areas” with historically high fossil fuel industry activity, limited to eight NAICS codes, and currently high unemployment under prior-year statistics released annually in May; and
  3. census tracts with closed coal mines or coal-fired power plants (and adjoining tracts).

All of these categories are subject to changes over time, which potentially will see them become included and excluded based on the year of determination.

Project qualification for the credit adder is determined by geographic location. Projects claiming a PTC need to be “located in” an energy community. Projects claiming an ITC need to be “placed in service” in an energy community. In either instance, the geographic qualifier is determined by whether 50% or more of a facility’s generating output or storage capacity is located in the appropriate area (nameplate capacity), and if that cannot be measured, then whether 50 percent or more of the facility’s square footage is in the appropriate area (footprint test). Generation from offshore energy projects that are not located in a census tract will be attributable to the location of the land-based power conditioning equipment. This could result in projects locating their onshore substations to best qualify for the 10% energy community bonus.

Treasury and IRS have collaborated with the Interagency Working Group on Energy Communities to create a searchable mapping tool to identify eligible energy communities. Along with the search tool, three appendices were released with Notice 2023-29: Appendix A contains delineations of the statistical areas, Appendix B lists statistical areas with significant direct employment in the relevant fossil fuel industries, and Appendix C lists census tracts in the coal mine and plant closure categories. This information will undoubtedly be useful for developers and investors working on potential energy community projects.

Project Timing and a Special Rule for Beginning Construction

As mentioned, the categories of energy communities are subject to change over time. A location that is among the energy communities listed in 2023 may not appear there in the future. The IRS anticipated the difficulty this moving target presents for developing projects with multiyear build times and created a special begin-construction rule.

If a project is in a location that is an energy community as of its beginning-of-construction date, then, with respect to that particular project, the location will continue to be considered an energy community. If the project meets the begin-construction standards the IRS released and has refined over the past 10 years, this determination will last for the duration of the 10-year credit period for the PTC or until the project’s placed-in-service date for the ITC.

According to Notice 2023-29, forthcoming proposed regulations on these IRA tax provisions will be effective for tax years ending after April 4, 2023. The IRS also seeks comments on potential data sources, revenue categories and procedures to determine the eligibility of locations as energy communities by May 4, 2023, so this guidance may be refined. In the meantime, Notice 2023-29 gives taxpayers something to rely on for the energy community credit adders that apply equally under current Sections 45 and 48 PTC and ITC and to future technology-neutral Sections 45Y and 48E PTC and ITC that take over after 2025. This guidance is the first step toward continued certainty in developing renewable energy projects.