CRS Updates Issue Brief on Energy Tax Policy

Historically, U.S. federal energy tax policy promoted the supply of oil and gas. However, the 1970s witnessed (1) a significant cutback in the oil and gas industry's tax preferences, (2) the imposition of new excise taxes on oil, and (3) the introduction of numerous tax preferences for energy conservation, the development of alternative fuels, and the commercialization of the technologies for producing these fuels (renewables such as solar, wind, and biomass, and non-conven-tional fossil fuels such as shale oil and coalbed methane).

The Reagan Administration, using a free-market approach, advocated repeal of the windfall profit tax on oil and the repeal or phase-out of most energy tax preferences -- for oil and gas, as well as alternative fuels. Due to the combined effects of the Economic Recovery Tax Act and the energy tax subsidies that had not been repealed, which to- gether created negative effective tax rates in some cases, the actual energy tax policy dif- fered from the stated policy.

The George H. W. Bush and Bill Clinton years witnessed a return to a much more activist energy tax policy, with an emphasis on energy conservation and alternative fuels. While the original aim was to reduce demand for imported oil, energy tax policy was also increasingly viewed as a tool for achieving environmental and fiscal objectives.

The Clinton Administration's energy tax policy emphasized the environmental benefits of reducing greenhouse gases and global climate change, but it will be remembered for its failed proposal to enact a broadly based energy tax based on Btu's (British Thermal Units) and its 1993 across-the-board increase in motor fuels taxes by 4.3¢/gallon. The George W. Bush Administration has proposed a limited number of energy tax measures, but the 106^th- 108^th Congresses have considered comprehensive energy legislation, which included numerous energy tax incentives to increase the supply of, and reduce the demand for, fossil fuels and electricity, and for energy efficiency in residential and commercial buildings as well as for more energy efficient vehicles. They also included tax incentives for several types of alternative and renewable resources such as solar and geothermal. Because of controversy over either corporate average fuel economy standards, the Alaskan national wildlife refuge, or methyl-tertiary butyl ether, each of these attempts failed.

The Working Families Tax Relief Act of 2004 (P.L. 108-311), which was signed into law by the President on October 4, 2004, retroactively extended four energy tax subsidies. The American Jobs Creation Act of 2004 (P.L. 108-357), signed on October 22, 2004, contains several energy-related tax breaks that were in the comprehensive energy bills. The current energy tax structure is dominated by revenues from a long-standing gasoline tax, and tax incentives for alternative and renewable fuels supply relative to energy from conventional fossil fuels.

In 2005 some action on energy taxes is likely due to interest in comprehensive energy legislation and several expiring energy tax provisions. The President's FY2006 budget proposal includes about $6.7 billion in energy tax incentives (over 10 years). A scaled down version of the energy tax title of H.R. 6 (108^th Congress) was approved by the House as part of comprehensive energy legislation in the 109^th Congress, also numbered H.R 6.

MOST RECENT DEVELOPMENTS

On April 13, 2005, the House approved a comprehensive energy bill (H.R. 6) with its tax title (approved by the House Ways and Means Committee as H.R. 1541) intact. On February 7, 2005, President Bush unveiled his FY2006 budget proposal, which included $6.7 billion in energy tax incentives. On October 4, 2004, the President signed into law the Working Families Tax Relief Act of 2004 (P.L. 108-311), a $146 billion package of tax breaks that retroactively extended four energy tax subsidies. On October 6, 2004, the President signed into law the American Jobs Creation Act of 2004 (P.L. 108-357), containing some of the energy tax breaks that the Congress had been attempting to pass as part of comprehensive energy legislation.

BACKGROUND AND ANALYSIS

The idea of applying tax policy instruments to the energy markets is not new, but until the 1970s energy tax policy had been little used, except for the oil and gas industry. Recurrent energy- related problems since the 1970s -- oil embargoes, oil price and supply shocks, wide petroleum price variations and price spikes, large geographical price disparities, tight energy supplies, rising oil import dependence, as well as increased concern for the environment -- have caused policymakers to look toward energy taxes and subsidies with greater frequency.

This issue brief discusses the history, current posture, and outlook for federal energy tax policy. It also discusses recent energy tax proposals, focusing on the major energy tax provisions that were debated as part of omnibus energy legislation in the 108^th Congress (e.g., H.R. 6), which may be reintroduced in the 109^th Congress. (For a general economic analysis of energy tax policy, see CRS Report RL30406, Energy Tax Policy: An Economic Analysis.)

Energy Tax Policy from 1918 to 1970: Promoting Oil and Gas

Historically, federal energy tax policy was focused on increasing domestic oil and gas reserves and production; there were no tax incentives for energy conservation or for alternative fuels. Two oil/gas tax code preferences embodied this policy: 1) expensing of intangible drilling costs (IDCs) and dry hole costs, which was introduced in 1916, and 2) the percentage depletion allowance, first enacted in 1926 (coal was added in 1932).

Expensing of IDCs (such as labor costs, material costs, supplies, and repairs associated with drilling a well) gave oil and gas producers the benefit of fully deducting from the first year's income ("writing off") a significant portion of the total costs of bringing a well into production, costs that would otherwise (i.e., in theory and under standard, accepted tax accounting methods) be capitalized (i.e., written off during the life of the well as income is earned). For dry holes, which comprised on average about 80% of all the wells drilled, the costs were also allowed to be deducted in the year drilled (expensed) and deducted against other types of income, which led to many tax shelters that benefitted primarily high-income taxpayers. Expensing accelerates tax deductions, defers tax liability, and encourages oil and gas prospecting, drilling, and the development of reserves.

The percentage depletion allowance for oil and gas permitted oil and gas producers to claim 27.5% of revenue as a deduction for the cost of exhaustion or depletion of the deposit, allowing deductions in excess of capital investment (i.e, in excess of adjusted cost depletion) -- the economically neutral method of capital recovery for the extractive industries. Percentage depletion encourages faster mineral development than cost depletion (the equivalent of depreciation of plants and equipment).

These and other tax subsidies discussed later (e.g., capital gains treatment of the sale of successful properties, the special exemption from the passive loss limitation rules, and special tax credits) reduced marginal effective tax rates in the oil and gas industries, reduced production costs, and increased investments in locating reserves (increased exploration). They also led to more profitable production and some acceleration of oil and gas production (increased rate of extraction), and more rapid depletion of energy resources than would otherwise occur. Such subsidies tend to channel resources into these activities that otherwise would be used for oil and gas activities abroad or for other economic activities in the United States. Relatively low oil prices encouraged petroleum consumption (as opposed to conservation) and inhibited the development of alternatives to fossil fuels, such as unconventional fuels and renewable forms of energy. Oil and gas production increased from 16% of total U.S. energy production in 1920 to 71.1% of total energy production in 1970 (the peak year).

Energy Tax Policy During the 1970s: Conservation and Alternative Fuels

Three developments during the 1970s caused a dramatic shift in the focus of federal energy tax policy. First, the large revenue losses associated with the oil and gas tax preferences became increasingly hard to justify in the face of increasing federal budget deficits -- and in view of the longstanding economic arguments against the special tax treatment for oil and gas. Second, heightened awareness of environmental pollution and concern for environmental degradation, and the increased importance of distributional issues in policy formulation (i.e., equity and fairness), lost the domestic oil and gas industry much political support. Thus, it became more difficult to justify percentage depletion and other subsidies, largely claimed by wealthy individuals and big vertically integrated oil companies. More importantly, during the 1970s there were two energy crises: the oil embargo of 1973 -- also known as the first oil shock -- and the Iranian Revolution in 1979, which focused policymakers' attention on the problems (alleged "failures") in the energy markets and how these problems reverberated throughout the economy causing stagflation, shortages, productivity problems, rising import dependence, and other economic and social problems.

These developments caused federal energy tax policy to shift from oil and gas supply toward energy conservation (reduced energy demand) and alternative energy sources.

Three broad actions through the tax code were taken to implement the new energy tax policy during the 1970s: First, the oil industry's two major tax preferences -- expensing of IDCs and percentage depletion -- were significantly reduced, particularly the percentage depletion allowance, which was eliminated for the major integrated oil companies and reduced for the remaining producers. Other oil and gas tax benefits were also cut back during this period. For example, oil- and gas-fired boilers used in steam generation (for example, to generate electricity) could no longer qualify for accelerated depreciation as a result of the Energy Tax Act of 1978 (as discussed below).

The second broad policy action was the imposition of several new excise taxes penalizing the use of conventional fossil fuels, particularly oil and gas (and later coal). The Energy Tax Act of 1978 (ETA, P.L. 95-618) created a federal "gas guzzler" excise tax on the sale of automobiles with relatively low fuel economy ratings. This tax, which is still in effect, currently ranges from $1,000 for an automobile rated between 21.5 and 22.5 miles per gallon (mpg) to $7,700 for an automobile rated at less than 12.5 mpg. Chief among the taxes on oil was the windfall profit tax (WPT) enacted in 1980 (P.L. 96-223). The WPT imposed an excise tax of 15% to 70% on the difference between the market price of oil and a predetermined (adjusted) base price. This tax, which was repealed in 1988, was part of a political compromise that decontrolled oil prices (between 1971 and 1980 oil prices were controlled under President Nixon's Economic Stabilization Act of 1970 -- the so-called "wage-price freeze"). (For more detail on the windfall profit tax on crude oil that was imposed from 1980 until its repeal in 1988, see archived CRS Report 90-442, The Windfall Profit Tax on Crude Oil: Overview of the Issues, available from the author.)

Another, but relatively small, excise tax on petroleum was instituted in 1980: the environmental excise tax on crude oil received at a U.S. refinery. This tax, part of the Comprehensive Environmental Response, Compensation, and Liability Act of 1980 (P.L. 96510), otherwise known as the "Superfund" program, was designed to charge oil refineries for the cost of releasing any hazardous materials that resulted from the refining of crude oil. The tax rate was set initially at 0.79¢ ($0.0079) per barrel, and was subsequently raised to 9.7¢ per barrel. This tax expired at the end of 1995, but legislation has been proposed since then to reinstate it as part of Superfund reauthorization.

The third broad action taken during the 1970s to implement the new and refocused energy tax policy was the introduction of numerous tax incentives or subsidies -- special tax credits, deductions, exclusions, etc. -- for energy conservation, the development of alternative fuels (renewable and non-conventional fuels), and the commercialization of energy efficiency and alternative fuels technologies. Most of these new tax subsidies were introduced as part of the Energy Tax Act of 1978 and expanded under the WPT, which also introduced additional new energy tax subsidies. The following list describes these:

• Residential and Business Energy Tax Credits. The ETA provided income tax credits for homeowners and businesses that invested in a variety of energy conservation products (e.g., insulation and other energy-conserving components) and for solar and wind energy equipment installed in a principal home or a business. The business energy tax credits were 10% to 15% of the investment in conservation or alternative fuels technologies, such as synthetic fuels, solar, wind, geothermal, and biomass. These tax credits were also expanded as part of the WPT but they generally expired (except for business use of solar and geothermal technologies) as scheduled either in 1982 or 1985. President Clinton's FY2001 budget included a solar credit that is very similar to the 1978 residential energy tax credits. A 15% investment tax credit for business use of solar and geothermal energy, which was made permanent, is all that remains of these tax credits.

• Tax Subsidies for Alcohol Fuels. The ETA also introduced the excise tax exemption for gasohol, recently at 5.2¢ per gallon out of a gasoline tax of 18.4¢/gal. Subsequent legislation extended the exemption and converted it into an immediate tax credit (currently at 51¢/gallon of ethanol).

• Percentage Depletion for Geothermal. The ETA made geothermal deposits eligible for the percentage depletion allowance, at the rate of 22%. Currently the rate is 15%.

• § 29 Tax Credit for Unconventional Fuels. The 1980 WPT included a $3.00 (in 1979 dollars) production tax credit to stimulate the supply of selected unconventional fuels: oil from shale or tar sands, gas produced from either geo- pressurized brine, Devonian shale, tight formations, and coalbed methane, gas from biomass, and synthetic fuels from coal. In current dollars this credit, which is still in effect, was $6.40 per barrel of liquid fuels and about $1.13 per thousand cubic feet (mcf) of gas in 2003.

• Tax-Exempt Interest on Industrial Development Bonds. The WPT made facilities for producing fuels from solid waste exempt from federal taxation of interest on industrial development bonds (IDBs). This exemption was for the benefit of the development of alcohol fuels produced from biomass, for solid-waste-to-energy facilities, for hydroelectric facilities, and for facilities for producing renewable energy. IDBs, which provide significant benefits to state and local electric utilities (public power), had become a popular source of financing for renewable energy projects.

Reagan's Free-Market Energy Tax Policy

The Reagan Administration opposed using the tax law to promote either oil and gas development, energy conservation, or the supply of alternative fuels. The idea was to have a more neutral and less distortionary energy tax policy, which would make energy markets work more efficiently and generate benefits to the general economy. The Reagan Administration believed that the responsibility for commercializing conservation and alternative energy technologies rested with the private sector and that high oil prices -- real oil prices (corrected for inflation) were at historically high levels in 1981 and 1982 -- would be ample encouragement for the development of alternative energy resources. High oil prices in themselves create conservation incentives and stimulate oil and gas production.

President Reagan's free-market views were well known prior to his election. During the 1980 presidential campaign, he proposed repeal of the WPT, deregulating oil and natural gas prices, and minimizing government intervention in the energy markets. The Reagan Administration's energy tax policy was professed more formally in several energy and tax policy studies, including its 1981 National Energy Policy Plan and the 1983 update to this plan; it culminated in a 1984 Treasury study on general tax reform, which also proposed fundamental reforms of federal energy tax policy. In terms of actual legislation, many of the Reagan Administration's objectives were realized, although as discussed below there were unintended effects. In 1982, the business energy tax credits on most types of non-renewable technologies -- those enacted under the ETA of 1978 -- were allowed to expire as scheduled; other business credits and the residential energy tax credits were allowed to expire at the end of 1985, also as scheduled. Only the tax credits for business solar, geothermal, ocean thermal and biomass technologies were extended. And as mentioned above, today the tax credit for business investment in solar and geothermal technologies, which has since been reduced to 10%, is all that remains of these tax credits. A final accomplishment was the repeal of the WPT, but not until 1988, the end of the Reagan term. The Reagan Administration's other energy tax policy proposals, however, were not adopted. The tax incentives for oil and gas were not eliminated, although they were pared back as part of the Tax Reform Act (TRA) of 1986.

While the Reagan Administration's objective was to create a free-market energy policy, significant liberalization of the depreciation system and reduction in marginal tax rates -- both the result of the Economic Recovery Tax Act of 1981 (ERTA, P.L. 97-34) -- combined with the regular investment tax credit and the business energy investment tax credits, resulted in negative effective tax rates for many investments, including alternative energy investments such as solar and synthetic fuels. Also, the retention of percentage depletion and expensing of IDCs (even at the reduced rates) rendered oil and gas investments still favored relative to investments in general.

Energy Tax Policy After Reagan

After the Reagan Revolution, several major energy and non-energy laws were enacted that amended the energy tax laws in several ways, some major:

• Revenue Provisions of the Omnibus Reconciliation Act of 1990. President George H. W. Bush's first major tax law included numerous energy tax incentives: (1) For conservation (and deficit reduction), the law increased the gasoline tax by 5¢/gallon and doubled the gas-guzzler tax; (2) for oil and gas, the law introduced a 10% tax credit for enhanced oil recovery expenditures, liberalized some of the restrictions on the percentage depletion allowance, and reduced the impact of the alternative minimum tax on oil and gas investments; and (3) for alternative fuels, the law expanded the § 29 tax credit for unconventional fuels and introduced the tax credit for small producers of ethanol used as a motor fuel.

• Energy Policy Act of 1992 (P.L. 102-486). This broad energy measure introduced the § 45 tax credit, at 1.5¢ per kilowatt hour, for electricity generated from wind and "closed-loop" biomass systems. (Poultry litter was added later. For new facilities, this tax credit expired at the end of 2001 and again in 2003 but has been retroactively extended by recent tax legislation (as discussed below.) In addition, the 1992 law 1) added an income tax deduction for the costs, up to $2,000, of clean-fuel powered vehicles; 2) liberalized the alcohol fuels tax exemption; 3) expanded the § 29 production tax credit for non- conventional energy resources; 4) liberalized the tax breaks for oil and gas.

• Omnibus Budget Reconciliation Act of 1993 (P.L. 103- 66). President Clinton proposed a differential Btu tax on fossil fuels (a broadly-based general tax primarily on oil, gas, and coal based on the British thermal units of heat output), which was dropped in favor of a broadly applied 4.3¢/gallon increase in the excise taxes on motor fuels, with revenues allocated for deficit reduction rather than the various trust funds.

• Taxpayer Relief Act of 1997 (P.L. 105-34). This law includes a variety of excise tax provisions for motor fuels, of which some involved tax reductions on alternative transportation fuels, and some involved increases, such as on kerosene, which on balance further tilted energy tax policy toward alternative fuels.

• Tax Relief and Extension Act. Enacted as Title V of the Ticket to Work and Work Incentives Improvement Act of 1999 (P.L. 106-170), it extended and liberalized the 1.5¢/kWh renewable electricity production tax credit, and renewed the suspension of the net income limit on the percentage depletion allowance for marginal oil and gas wells.

Another interesting feature of the post-Reagan energy tax policy is that while the primary focus continues to be energy conservation and alternative fuels, no energy tax legislation has been enacted during this period that does not also include some, relatively minor, tax relief for the oil and gas industry, either in the form of new tax incentives or liberalization of existing tax breaks (or both).

Brief History of Comprehensive Energy Policy Proposals

Although the primary rationale for comprehensive energy legislation has been spiking petroleum prices, and to a lesser extent spiking natural gas and electricity prices, the origin of these bills was the very low crude oil prices of the late 1990s. Domestic crude oil prices reached a low of just over $10 per barrel in the winter of 1998-1999, among the lowest crude oil prices in history after correcting for inflation. From 1986- 1999 oil prices averaged about $17 per barrel, fluctuating from between $12 and $20 per barrel. These low oil prices hurt oil producers, benefitted oil refiners, and encouraged consumption. They also served as a disincentive to conservation and investment in energy efficiency technologies and discouraged production of alternative fuels and renewable technologies. To address the low oil prices, there were many tax bills in the first session of the 106^th Congress (1999) focused on production tax credits for marginal or stripper wells, but they also included carryback provisions for net operating losses, and other fossil fuels supply provisions.

By summer 1999, crude oil prices rose to about $20 per barrel, and peaked at more than $30 per barrel by summer 2000, causing high gasoline, diesel, and heating oil prices. To address these effects of high crude oil prices, legislative proposals again focused on production tax credits and other supply incentives. The rationale was not tax relief for a depressed industry but tax incentives to increase output, reduce prices, and provide price relief to consumers.

In addition to high petroleum prices there were forces -- some of which were understood (factors such as environmental regulations and pipeline breaks) and others that are still are not so clearly understood -- that caused the prices of these petroleum products to spike. In response, there were proposals in 2000 to either temporarily reduce or eliminate the federal excise tax on gasoline, diesel, and other special motor fuels. The proposals aimed to help consumers (including truckers) cushion the financial effect of the price spikes. (For an analysis of this legislation, see CRS Report RL30497, Suspending the Gas Tax: Analysis of S. 2285.) The Midwest gasoline price spike in summer 2000 kept interest in these excise tax moratoria alive and generated interest in proposals for a windfall profit tax on oil companies which, by then, were earning substantial profits from high prices.

Despite numerous bills to address these issues, no major energy tax bill was enacted in the 106^th Congress. However, some minor amendments to energy tax provisions were enacted as part of non-energy tax bills. This includes Title V of the Ticket to Work and Work Incentives Improvement Act of 1999 (P.L. 106-170), enacted on December 1999. Also, the 106^th Congress did enact a package of $500 million in loan guarantees for small independent oil and gas producers, which became law (P.L. 106-51) in August 1999.

Energy Tax Action in the 107^th Congress

In early 2001, the 107^th Congress faced a combination of fluctuating oil prices, an electricity crisis in California, and spiking natural gas prices. The gas prices had increased steadily in 2000 and reached $9 per thousand cubic feet (mcf) at the outset of the 107^th Congress. At one point, spot market prices reached about $30 per mcf, the energy equivalent of $175 per barrel of oil. The combination of energy problems had developed into an "energy crisis," which prompted congressional action on a comprehensive energy policy bill -- the first since 1992 -- which included a significant expansion of energy tax incentives and subsidies and other energy policy measures.

In 2002, the House and Senate approved two distinct versions of an omnibus energy bill, H.R. 4. While there were substantial differences in the non-tax provisions of the bill, the energy tax measures also differed significantly. The House bill proposed larger energy tax cuts, with some energy tax increases. It would have reduced energy taxes by about $36.5 billion over 10 years, in contrast to the Senate bill, which cut about $18.3 billion over 10 years, including about $5.1 billion in tax credits over 10 years for two mandates: a renewable energy portfolio standard ($0.3 billion) and a renewable fuel standard ($4.8 billion). The House version emphasized conventional fuels supply, including capital investment incentives to stimulate production and distribution of oil, natural gas, and electricity. This focus assumed that recent energy problems were due mainly to supply and capacity shortages driven by economic growth and low energy prices. In comparison, the Senate bill would have provided a much smaller amount of tax incentives for fossil fuels and nuclear power and somewhat fewer incentives for energy efficiency, but provided more incentives for alternative and renewable fuels. The conference committee on H.R. 4 could not resolve differences, so the bills were dropped on November 13, 2002.

Energy Tax Action in the 108^th Congress

On the House side, on April 3, 2003, the Ways and Means Committee (WMC) voted 24-12 for an energy tax incentives bill (H.R. 1531) that was incorporated into H.R. 6 and approved by the House on April 11, 2003, by a vote of 247-175. The House version of H.R. 6 provided about $17.1 billion of energy tax incentives and included just under $0.1 billion ($83 million) of non-energy tax increases, or offsets. This bill was a substantially scaled-down version of the House energy tax bill H.R. 2511 (107^th Congress), which was incorporated into H.R. 4, the House energy bill of the 107^th Congress that never became law. After returning from the August 2003 recess, a House and Senate conference committee negotiated differences among provisions in three energy policy bills: the House and Senate versions of H.R. 6, and a substitute to the Senate Finance Committee (SFC) bill -- a modified (or amended) version of S. 1149 substituted for Senate H.R. 6 in conference as S.Amdt. 1424 and S.Amdt. 1431.

On November 14, 2003, House and Senate conferees reconciled the few remaining differences over the two conference versions of H.R. 6, which primarily centered on several energy tax issues -- ethanol tax subsidies, the § 29 unconventional fuels tax credit, tax incentives for nuclear power, and clean coal. On November 18, 2003, the House approved, by a fairly wide margin (246-180), the conference report containing about $23.5 billion of energy tax incentives. However, with the proposed ethanol mandate, which would further reduce energy tax receipts -- the 10-year revenue loss was projected to be around $26 billion. On November 24, Senate Republicans put aside attempts to enact H.R. 6. A number of uneasy alliances pieced together to bridge contentious divides over regional issues as varied as electricity, fuel additives (MTBE), and natural gas subsidies, failed to secure the necessary 60 votes to overcome a Democratic filibuster before Congress's adjournment for the holiday season. This represented the third attempt to pass comprehensive energy legislation, a top priority for Republicans and for President Bush.

Republicans introduced a smaller energy bill as S. 2095 on February 12, 2004. S. 2095 included a slightly modified version of the amended energy tax bill S. 1149; the tax provisions of S. 2095 were added to the export tax repeal bill S. 1637, on April 5, 2004. The Senate approved S. 1637, with the energy tax measures, on May 11. H.R. 4520, the House version of the export tax repeal legislation, did not contain energy tax measures; they were still incorporated into H.R. 6.

Energy Tax Provisions in the Working Families Tax Relief Act of 2004. After some existing energy tax incentives expired, the 108^th Congress enacted retroactive extension of several of the provisions as part of the Working Families Tax Relief Act of 2004 (P.L. 108-311), a $146 billion package of middle class and business tax breaks. This legislation, which was signed into law by the President on October 4, 2004, retroactively extended four energy tax subsidies: the § 45 renewable tax credit, suspension of the 100% net income limitation for the oil and gas percentage depletion allowance, the $4,000 tax credit for electric vehicles, and the deduction for clean fuel vehicles (which ranges from $2,000 to $50,000). The § 45 tax credit and the suspension of the 100% net income limitation had each expired on January 1, 2004; they were retroactively extended through December 31, 2005. The electric vehicle credit and the clean-vehicle income tax deduction were being phased out gradually beginning on January 1, 2004. P.L. 108-311 arrests the phase-down -- provides 100% of the tax breaks -- through 2005, but resumes it beginning on January 1, 2006, when only 25% of the tax break will be available. (For more information, see CRS Report RL32265, Expired and Expiring Energy Tax Incentives.)

Energy Tax Provisions of the "Jobs" Bill. After the Congress repeatedly chose not to enact a more extensive list of energy tax incentives for energy efficiency, renewable fuels, and for oil, gas, and coal, it agreed to a scaled down package of energy tax incentives from the Senate-passed version of the FSC-ETI "jobs" bill (H.R. 4520). This bill, enacted as the American Jobs Creation Act of 2004 (P.L. 108-357) on October 22, 2004, contains several energy-related tax breaks:

• Expansion of the renewable electricity credit to open-loop biomass, geothermal, solar, small irrigation power, and municipal solid waste facilities, and creating the production tax credit for refined coal. The latter provides a new tax credit of $4.375/ton for refined coal -- not for the electricity produced from the coal. (The refined coal tax credit was originally part of the proposed expansion of the § 29 tax credit, which already benefits "synfuels" from coal and was inserted into the renewable electricity section of the tax code). Expansion of the § 45 tax credit also includes minimum tax relief.

• Liberalization of the tax treatment of electric cooperatives under a restructured electricity market.

• Treatment of certain Alaska pipeline property as seven-year depreciation property (rather than 15 years under prior law) and extension of the 15% enhanced oil recovery credit to Alaska gas processing facilities.

• Reform of the tax subsidies for fuel ethanol -- basically replacement of the excise tax exemption with an equivalent immediate tax credit -- and expansion of the credit to include biodiesel (at a higher rate for biodiesel made from virgin oils). Liberalization includes allowance of the credits against the alternative minimum tax.

• Creation of a new tax credit for oil and gas from marginal (small) wells; this credit is triggered when oil prices are below $18/barrel ($2/mcf for natural gas), which means that currently, with oil prices above $40/barrel, it would provide no benefits.

• Repeal of the general fund component (4.3¢/gal.) excise tax on diesel fuel used in trains and barges.

• A $2.10/barrel tax credit for production of low-sulfur diesel fuel and "expensing" of (basically, faster depreciation deductions for) the capital costs to produce such fuels. Both tax subsidies are subject to limits.

• A host of provisions to prevent fuel tax fraud, including one changing the collection point of the tax on aviation fuels.

Some energy tax incentives were enacted as part of the Working Families Tax Relief Act of 2004 (P.L. 108-311), enacted on October 4, 2004; about $5 billion in energy tax incentives were part of the American Jobs Creation Act of 2004 (P.L. 108-357) enacted on October 22, 2004. About $8.1 billion in energy tax cuts have been incorporated in H.R. 6, (109^th Congress), which was approved by the House on April 21, 2005, by a vote of 249 to 183. However, that leaves roughly $10.4 billion in tax breaks embodied in the failed comprehensive legislation H.R. 6 (108^th Congress) that have been dropped.

H.R. 6 (The Energy Policy Act of 2005)

The energy tax cuts of H.R. 6 (109^th Congress) were approved by the House Ways and Means Committee as H.R. 1541, Enhanced Energy Infrastructure and Technology Act of 2005 on April 13, 2005. These provisions would:

• Clarify that natural gas gathering lines are subject to seven-year depreciation;

• Reduce the depreciation period for natural gas distribution lines from 35 to 15 years;

• Reduce the depreciation period for transmission assets from 20 to 15 years;

• Allow air pollution control facilities at power plants to be depreciated over five years regardless of when the plant was built;

• Repeal the cost of service requirement and the post-1984 limitation for contributions to nuclear decommissioning funds;

• Create a statutory safe harbor exception to the arbitrage rules for tax-exempt bonds issued by state or local governments. The safe harbor would allow public utilities to finance prepayments for natural gas with tax exempt bond proceeds if the natural gas is used to supply the utility's customers;

• Allow delayed rental payments to be deducted over two years if they are incurred in connection with the development of oil or gas in the United States. Oil and gas producers typically contract for mineral production in exchange for royalty payments. If mineral production is delayed, the royalty payments are delayed;

• Allow geological and geophysical costs to be deducted over two years if they are incurred in connection with oil and gas exploration in the United States;

• Define, for purposes of percentage depletion, independent producers so as to include small refiners that refine up to 70,000 barrels per day of oil, an increase from the current 50,000 barrel limit per year;

• Make the § 29 tax credit for unconventional fuels (such as shale oil, coalbed methane, and others) part of the "general business credit" so that unused credits may be carried back one year and carried forward for up to 20 years;

• Create a nonrefundable personal tax credit for the purchase of residential solar water heating and photovoltaic equipment (i.e., equipment that uses solar energy to generate electricity);

• Create a nonrefundable tax credit for residential fuel cell property and business installation of fuel cell power plants (i.e., systems that convert fuel into electricity using electrochemical means);

• Create a nonrefundable tax credit for the purchase of advance lean-burn technology vehicles;

• Create a nonrefundable personal tax credit for energy- efficient improvements to existing homes. The credit would equal 20 percent of the cost of the improvements up to a maximum credit of $2,000;

• Reduce the tax rate on qualifying diesel-water emulsions to 19.7¢ per-gallon to reflect the lower Btu content resulting from the water;

• Permit the personal energy credits created in the bill to offset alternative minimum tax (AMT) liability;

• Permit certain business energy credits to offset AMT liability.

• a 15% tax credit for residential solar energy systems to generate electricity or to heat water in their homes,

• a deduction for contributions to nuclear decommissioning funds made by unregulated taxpayers,

• a $4,000 tax credit for the purchase of certain hybrid vehicles and a credit of up to $8,000 for fuel cell vehicles,

• a 10% investment tax credit for combined heat and power systems that meet certain specifications for electrical capacity,

• extend for two years an existing credit for electricity produced from wind, biomass other than agricultural livestock waste nutrients, and landfill gas. That credit would apply to electricity produced at facilities placed in service before January 1, 2008, Treasury said in the blue book.

Several sections of federal energy tax laws are either time- sensitive or will expire in 2005: (1) the placed-in-service deadline for eligibility for the § 45 tax credit for electricity production from wind, closed-loop biomass, open-loop biomass, geothermal or solar energy, small irrigation power, or municipal solid waste is December 31, 2005; (2) the oil and gas percentage depletion allowance is limited to 100% of taxable income from each property, but this limitation is suspended through December 31, 2005, and is likely to be suspended again; and (3) highway trust fund excise tax rates will expire.

LEGISLATION

H.R. 6 (Barton)

Among other provisions, the Energy Policy Act of 2005 would open up the Arctic National Wildlife Refuge (ANWR) to exploration and development, includes a "safe harbor" provision to protect methyl tertiary-butyl ether (MTBE) refiners from product liability suits, would establish a "refinery revitalization" program, and would permit the Federal Energy Regulatory Commission (FERC) to decide on the siting of liquified natural gas (LNG) terminals. Introduced on April 18, 2005. Approved by the House on April 21, 2005 by a vote of 249 to 183.

H.R. 17 (Hayworth)

To amend the Internal Revenue Code of 1986 to allow a credit for residential solar energy property. Introduced January 4, 2005. Referred to House Committee on Ways and Means.

H.R. 36 (King)

To amend the Internal Revenue Code of 1986 to provide for a small agri-biodiesel producer credit and to improve the small ethanol producer credit. Introduced January 4, 2005. Referred to House Committee on Ways and Means.

H.R. 1541 (Thomas)

To amend the Internal Revenue Code of 1986 to enhance energy infrastructure properties in the United States and to encourage the use of certain energy technologies, shorten the depreciation period for natural gas lines and pollution control facilities and modify various exemptions, deductions, and credits, and for other purposes. Introduced on April 11, and approved (with slight modifications) on April 13 by the House Committee on Ways and Means by a vote of 26 to 11.

H.R. 6, 108^th Congress (Tauzin)

To promote energy conservation, and research and development, to provide for energy security and diversity in energy supply for the American people and for other purposes. Incorporates H.R. 39, H.R. 238, H.R. 1531 (the tax provisions), and H.R. 1644. The tax title amends the Internal Revenue Code of 1986 to provide incentives for fossil fuel supply (including coal output incentives), facilitate electricity industry restructuring (which is also an energy supply incentive), and reduce fossil fuel demand through enhanced energy efficiency and alternative and renewable fuels supply. Also provides for revenue offsets. Introduced April 7, 2003; referred to several committees. Passed by the House on April 11, 2003. The Senate version was approved July 31, 2003.

FOR ADDITIONAL READING

U.S. Congress. Senate Budget Committee. Tax Expenditures: Compendium of Background Material on Individual Provisions. Committee Print. December 2004. 108^th Congress, 2^nd Sess.

CRS Report RS21935. The Black Lung Excise Tax on Coal, by Salvatore Lazzari.

CRS Report RL30406. Energy Tax Policy: An Economic Analysis, by Salvatore Lazzari.

CRS Report RL32042. Energy Tax Incentives in the 108^th Congress: A Comparison of the House and Senate Versions of H.R. 6 and the Senate Finance Committee Amendment, by Salvatore Lazzari.

CRS Report RL31427. Omnibus Energy Legislation: H.R. 4 Side-by-Side Comparison, by Mark Holt and Carol Glover.