Investment Tax Credits for Nonprofit Entities

Under provisions of the Inflation Reduction Act (IRA), entities traditionally not able to utilize federal income tax credits now have a path to receiving Investment Tax Credit (ITC) benefits similar to their taxpaying counterparts. 

Overview of the Tax Credit

Section 48 of the Internal Revenue Code (IRC) provides an investment tax credit for a percentage of the basis of energy property a taxpayer places in service during a tax year. The percentage is generally 6%, increased to 30% if prevailing wage and apprenticeship requirements are met. The percentage may be increased by bonuses related to domestic content, location in an energy community, and location in a low-income community.

Property qualifies as “energy property” if it is of a certain type; if the taxpayer completes the property’s construction, reconstruction, or erection or acquires it as the original user; and if it complies with performance and quality standards in effect at the time of acquisition that have been issued by Treasury after consulting with the Department of Energy. Depreciation or amortization of the energy property is allowable.

Types of property qualifying as energy property include the following:

• solar energy equipment used to generate electricity, heat or cool (or provide hot water for use in) a structure, provide solar process heat, or (for property that begins construction before 2025) provide lighting using fiber-optic distributed sunlight and electrochromic glass used to heat or cool
• equipment that produces, distributes, or uses energy derived from a geothermal deposit
• qualified fuel cell property
• microturbine property
• combined heat and power system property
• qualified small wind energy property
• equipment using the ground or groundwater as a thermal energy source
• waste energy recovery property
• energy storage technology
• qualified biogas property
• microgrid controllers

Direct Pay Incentives

Tax-exempt entities are eligible to receive payment – referred to commonly as either direct pay or elective pay – equal to the full value of the ITC and its bonus credits after a clean energy project has been placed in service and the requisite filings completed. This new provision from the IRA will allow nonprofit organizations, states, local governments, and Tribal Nations, among others, to receive payment equal to the full value of tax credits for building clean energy projects.

The project must be placed in service before the entity can apply for direct pay reimbursement. Only projects placed in service after the start of the 2023 tax year are eligible.

The eligible entity must also make a pre-filing submission with the IRS through the IRS electronic portal. The IRS will provide a pre-filing registration number, which must be included on the entity’s tax filing. An entity without a registration number is ineligible to receive tax credits. Expect the IRS to take up to 120 days to process the pre-filing registration and to provide a registration number.

To make the elective payment election on the entity’s tax return, the entity must fill out Form 3800 (citing the registration number received through pre-filing) and provide any additional required documentation and underlying source credit forms.

Interaction with Other Available Incentives

Tax-exempt entities may still benefit from the direct pay provisions of the IRA even if a tax-exempt amount is received to partially finance the clean energy projects.

Amounts exempt from taxation under subtitle A of the IRC or otherwise excluded from taxation (such as income from certain grants and forgivable loans) are included in the basis for purposes of computing the credit amount for the property. This inclusion applies when these amounts are used to purchase, construct, reconstruct, erect, or acquire an investment-related credit property. This rule holds true regardless of whether the basis must be reduced (in whole or in part) by such amounts under general tax principles.

However, if an entity receives a grant, forgivable loan, or other income exempt from taxation under subtitle A of the IRC or otherwise excluded from taxation to acquire an investment-related credit property (restricted tax-exempt amount), and the sum of any restricted tax exempt amounts plus the credit determined for that property exceeds the cost of the property, then the amount of the credit is reduced so that the credit plus any restricted tax exempt amounts equals the cost of the investment-related credit property.

For assistance with navigating the qualification for and direct pay of an ITC, please contact us.