Energy Companies Examine Proposed Carbon Capture Credit Regs

Comments of the Energy Advance Center

August 3, 2020

Re: Treasury/IRS Proposed Amendments to Income Tax Regulations (26 CFR Part 1) Regarding the Section 45Q Credit for Carbon Oxide Sequestration (Reg-112339-19)

The Energy Advance Center (“EAC”) is a voluntary association of energy and energy-related organizations dedicated to advancing the development and deployment of carbon capture, utilization and storage (“CCUS”) to achieve a cleaner energy profile and improve U.S. economic and energy security. The EAC membership — ConocoPhillips Company, Denbury Resources Inc., Exxon Mobil Corporation, Kinder Morgan, Inc., and Mitsubishi Heavy Industries America, Inc. — represents leading CCUS project participants involved across the entire CCUS value chain. EAC members operate over 50% of existing CO₂ pipeline transportation infrastructure in the United States, capture about 7 million tonnes of CO₂ per year, and are among the largest users of anthropogenic CO₂ in enhanced oil recovery operations.

The EAC thanks the Department of the Treasury (“Treasury”) and the Internal Revenue Service (“IRS” or “Service”) for the opportunity to submit comments on the proposed regulations (“proposed regulations” or “Prop. Treas. Reg.”) on the Internal Revenue Code Section 45Q tax credit (the “Section 45Q Credit” or the “Credit”) published in the Federal Register on June 2, 2020. Section 45Q represents a significant opportunity to both enhance the deployment of CCUS projects and foster innovation in capture and storage technology. Such advancements would allow CCUS to mature as both a tool for mitigating greenhouse gas emissions and unlocking new domestic energy resources. We anticipate that when promulgated in final form, these Section 45Q regulations will provide the regulatory certainty needed to induce and facilitate significant investment in CCUS projects as well as accelerate widespread application of CCUS in the scope and scale Congress anticipated in enacting the Section 45Q Credit. As such, promulgating the final Section 45Q regulations will have very positive implications for creation of new manufacturing jobs, enhancement of US energy security and our nation's environmental leadership. With so much potential benefit to the nation at stake, EAC strongly urges Treasury to proceed expeditiously in its consideration of the public comments and finalization of the Section 45Q regulations. To that end, EAC respectfully submits the following comments and recommendations for Treasury/IRS's consideration.

I. EAC Strongly Supports the Proposal to Provide Multiple Pathways for Demonstrating Secure Geological Storage:

EAC applauds Treasury's proposal to provide multiple pathways for taxpayers to demonstrate Secure Geological Storage (“SGS”) as a fundamental enhancement of the Section¹ 45Q regime that offers singularly valuable legal certainty and economic incentive for widespread investment in CCUS projects. EAC's specific comments and recommendations on the proposed regulations' SGS provisions are:

A. Multiple Pathways

EAC supports the decision to allow multiple pathways for demonstrating SGS and agrees with the Treasury's recognition that requiring Enhanced Oil Recovery (“EOR”) operations to report under Greenhouse Gas Reporting Program (“GHGRP”) subpart RR for purposes of claiming the Section 45Q tax credit is burdensome, conflicts with state resource conservation laws, industry practices and commercial arrangements. EAC supports the decision to allow CSA/ANSI ISO 27916:19 (ISO 27916:2019, IDT) (“ISO Standard 27916:2019” or “ISO Standard”) as an alternative for meeting the requirements for secure geological storage and agrees that ISO Standard 27916:2019 addresses safe, long-term containment and monitoring of CO₂ stored in association with a qualified enhanced oil or natural gas recovery project. EAC agrees that information used to document and demonstrate monitoring and containment assurance under that ISO Standard, including mass balance calculations, should be appropriately certified as accurate and complete.

In addition, we support Treasury's conclusion to allow, but not require, EOR operators to report under subpart RR for Class II Underground Injection Control Program (“UIC”) wells when qualified carbon dioxide is used as a tertiary injectant in a qualified enhanced oil or natural gas recovery project.

B.Third-Party Certification

In allowing use of the CSA/ANSI ISO 27916:19 Standard for SGS certification, however, such certification under that ISO Standard should not be more burdensome than that required of taxpayers reporting under GHGRP subpart RR. Consistent with subpart RR reporting, certification that a taxpayer claiming credit pursuant to ISO Standard 27916:2019 should be a one-time event based upon the project's physical or contractual manner of use of CO₂ as a tertiary injectant in a qualified enhanced oil or natural gas recovery project. In addition to allowing certification by an independent qualified engineer or geologist, a company's Professional Engineer in good standing should be included as a person qualified to provide the ISO Standard 27916:2019 certification. We emphasize that a Professional Engineer holds a professional license, which entails the possession of suitable technical qualifications for making such certifications as well as the additional obligation to comport with ethical standards, including the responsibility to the public above any obligation to the engineer's employer. (See, National Society of Professional Engineers Code of Ethics, nspe.org/resources/ethics/code-ethics). In that regard, allowing the Professional Engineer to be employed by the taxpayer increases the certifying engineer's detailed understanding of the project and how the project complies with ISO Standard 27916:2019. Annual confirmation by the credit claimant on Form 8933 that the project is being executed pursuant to the certified ISO Standard 27916:2019 (subject to IRS audit, recapture and potential penalty) should be sufficient for subsequent years.

C. Adjustments to Form 8933

In order to provide adequate documentation that the IRS may rely upon as materially correct and verifiable, EAC believes changes will be required to Form 8933. The GHGRP requires annual reporting of CO₂ sources and emissions to the EPA. EPA reviews data received from suppliers of CO₂ and EOR operators and determines if all the CO₂, whether placed into commerce or injected, is accounted for and if not, EPA contacts the relevant party. By utilizing existing, required information which is reported via the EPA Greenhouse Gas Reporting Tool and placing that information on the tax form, an effective means to report mass balance accounting for anthropogenic sources of CO₂ can be efficiently utilized for purposes of Section 45Q Credit documentation. EAC respectfully submits as Appendix A to these comments a modified Form 8933 as an illustration of how this additional information might be reported by the taxpayer. In addition, EAC is submitting as Appendix B hereto a White Paper entitled “Calculating EOR Control Efficiency for Anthropogenic CO₂ Using Existing GHG Reporting Tools” regarding anthropogenic CO₂ control efficiency, which supports the approach as suggested in the illustrative Form 8933 offered in Appendix A.

II. EAC Recommendations Regarding the Proposed Recapture Provisions

Prop. Treas. Reg. §1.45Q-5 deals with the issue of recapture of the Credit. EAC offers the following comments and recommendations regarding the recapture issue:

A. Use of LIFO

EAC supports the decision to use LIFO to determine which Credits are subject to recapture due to a recapture event.

B. Statute of Limitations/Look-Back period

EAC remains supportive of limiting the look-back period to 3 years to be consistent with the statute of limitations for the IRS to initiate an audit of a tax year, making the provision similarly situated with respect to other tax credits containing recapture provisions. Providing for a 3-year look-back improves tax and financial statement certainty for taxpayers claiming the Section 45Q Credit, and reduces the cost associated with tax equity transactions, thereby reducing the cost of CCUS projects and making the Section 45Q Credit more efficient and effective in inducing widespread investment in those projects. In contrast, a 5-year look-back period will increase the cost of otherwise viable projects. Given that the statute and the proposed 45Q regulations are specifically intended to provide enhanced economic incentive for widespread application of CCUS technology, a 3-year look-back would be the more favorable approach to increase investment in CCUS projects.

C. Qualified Re-Use of Stored Carbon Oxide

Prop. Treas. Reg. § 1.45Q-5(h) provides that the recapture rules apply to the intentional removal of qualified carbon oxide. In the case of the intentional removal of securely stored qualified carbon oxide and the re-use of that same qualified carbon oxide in a manner whereby it subsequently continues to be securely captured, utilized or stored, such that the total net release is zero, the final regulations should take a net approach and no recapture should be required in such secure reuse situations. This net approach is consistent with Prop. Treas. Reg. § 1.45Q-5(g)(1) which provides no recapture will have been deemed to have occurred if the leaked amount of qualified carbon oxide does not exceed the amount of qualified carbon oxide disposed.

D. Exceptions from Recapture Events

With respect to recapture events, EAC recommends clarifying the “limited exceptions” to a recapture event to exclude those events not within the control of the taxpayer claiming the Section 45Q tax credit. Prop. Treas. Reg. § 1.45Q-5(i) excludes from the definition of a recapture event, those events “not related to the selection, operation, or maintenance of the storage facility, such as volcanic activity or terrorist attack.” EAC supports replacing the phrase “volcanic activity” with a more inclusive list reflecting reasonably foreseeable events and calamities outside of the control of the taxpayer, such as “natural disasters, including but not limited to flood, drought, earthquake, volcanic eruption, landslide, hurricane, cyclone, typhoon, tornado, as well as war, civil disturbance, terrorist act, military action, epidemic, pandemic, famine, and action of a governmental authority.” EAC further recommends replacing the term “terrorist attack” with the phrase “the negligent or intentional acts of a third-party.” Amending the limited exceptions reflected in the proposed regulation in such suggested manner generally aligns this recapture section with events typically described as force majeure events in commercial contracts.

III. EAC Recommendations Regarding Definitional Terms

EAC offers the following comments and recommendations regarding several of the definitional terms contained in the proposed regulations:

A. Prop. Treas. Reg. § 1.45Q-2 Definition of Industrial Facility re: natural CO₂-bearing deposits.

Section 45Q creates a credit when Qualified Carbon Oxide (“Qualified CO₂”) is captured using Carbon Capture Equipment (“CCE”) placed in service at a Qualified Facility and that Qualified CO₂ is either disposed of in SGS or used as a tertiary injectant in a Qualified EOR Project and then disposed of in SGS.² But, in the proposed regulations, Treasury introduces a new exclusionary rule. This rule would disallow a 45Q Credit to a facility producing a commercial product other than CO₂ through a manufacturing process that also captures comingled CO₂ because of the content of the underlying natural gas deposit.³

i. Background on Qualified Facility Definition

The term “Qualified Facility” means any “Industrial Facility”⁴ which captures a threshold amount of “Qualified CO₂” in any given year.⁵ In Notice 2009-83, the Service determined that an “Industrial Facility” refers to a facility that produces a CO₂ stream from a fuel combustion source, manufacturing process, or fugitive CO₂ emission source that, absent capture and disposal, would otherwise be released into the air.⁶ In the same determination, the Service also excluded any facility that produces CO₂ from CO₂ production wells at natural CO₂-bearing formations from the definition of industrial facility.⁷

After the publication of Notice 2009-83, several members of Congress, seeking to resolve subsequent uncertainty generated by the exclusion, provided comments asking that Treasury clarify the definition of “Qualified Facility”. The legislators requested that Treasury align the term with congressional intent by limiting the exclusion only to CO₂ that is extracted for its standalone value.⁸

The term “Qualified CO₂” means any carbon dioxide which is captured from an “industrial source” that “would otherwise be released into the atmosphere as an industrial emission of greenhouse gas, and is measured at the source of capture and verified at the point of disposal or injection.”⁹

In sum, a “Qualified Facility” is an “Industrial Facility” that produces (and captures) a CO₂ stream from, among other things, a manufacturing process. The captured CO₂ is also Qualified CO₂. Nonetheless, in the proposed 45Q regulations, Treasury introduces a contrary new requirement that leads to a result where even when a facility captures a CO₂ stream from a manufacturing process that results in a commercially valuable commodity other than the CO₂, that CO₂ stream may not be qualified for the Credit because of the content of the underlying natural gas deposit.¹⁰

ii. EAC recommends that, consistent with the clear intent of Congress as well as in the interests of practicality and clarity, Treasury should establish a bright-line rule providing that when a facility produces and captures a CO₂ stream from a Prop. Treas. Reg. 1.45Q-2(d)(3) “Manufacturing Process” (CO₂ is not the exclusive commercial product), it is per se an “Industrial Facility.”

In Prop. Treas. Reg. § 1.45Q-2(d)(1), Treasury creates an exclusionary rule stating that the term “Industrial Facility” does not include a facility that produces CO₂ from natural CO₂-bearing formations. The proposed regulation offers a nominal safe harbor in that a natural gas deposit that contains less than 10% CO₂ is not considered natural CO₂-bearing, but otherwise leaves the determination whether a formation is natural CO₂-bearing to the “facts and circumstances.” To be consistent with the expressed legislative intent¹¹ underlying Section 45Q, any “Qualified Carbon Oxide”, with the narrow exception of such carbon oxide being captured solely for its standalone value, should be eligible for the credit.

EAC is supportive of the policy purpose of this language, which should be to exclude CO₂ produced exclusively for the value of such CO₂. Existing formations that produce CO₂ solely for the purposes of EOR contain > 95% CO₂. It is unlikely that any formation containing < 90% CO₂ would be produced solely for the value of the CO₂. Formations with high CO₂ concentrations but less than 90% are produced primarily because of the value of the remaining hydrocarbon and other valuable components. The CO₂ is a by-product of such production. A 90% CO₂ threshold would make more sense as demarcation for a “natural CO₂ bearing formation.” Such a threshold would also be consistent with the U.S. Department of Transportation, Pipeline Hazardous Materials Safety Administration (“PHMSA”) definition of CO₂ contained in 49 CFR § 195.2: “Carbon dioxide means a fluid consisting of more than 90 percent carbon dioxide molecules compressed to a supercritical state.”

EAC recommends Treasury expressly provide a practical bright-line rule stating that a facility that produces a byproduct CO₂ stream from a manufacturing process is per se an “Industrial Facility” without regard to whether the CO₂ was produced from a deposit of natural gas that contains greater than 10% carbon dioxide by volume. This approach is consistent with the statute and the clear legislative intent. Such rule would provide taxpayers with certainty in navigating the complex investment decisions and contractual arrangements necessary to undertake the activity Congress seeks to incentivize with the Section 45Q Credit. In addition, it would be a more administrable rule for the Service.

Such a bright line rule is also consistent with the example provided in Prop. Treas. Reg. § 1.45Q-2(d)(4), which is used to explain the term “manufacturing process.” In the example, Taxpayer B extracts CO₂ and methane from a reservoir that contains equal parts of each gas. After separating the gas streams, Taxpayer B sells the CO₂ for use in EOR projects and reinjects most of the methane. Because CO₂ is the only product sold for profit or used for a commercial purpose, Treasury concludes that this is not a manufacturing process within the meaning of paragraph (d)(3) and thus, the CO₂ is not qualified.¹² Therefore, because the gas separation does not constitute a manufacturing process, the facility cannot be an industrial facility and thus the captured CO₂ cannot be “Qualified CO₂.”¹³

But, assume a reasonably predictable variation of the above scenario: Assume Taxpayer B sells the methane (meaning now both CO₂ and methane are sold for profit or used for a commercial purposes) and thus Taxpayer B's process constitutes a manufacturing process. Treasury introduces an additional layer of uncertainty and complexity not present in the statute by requiring Taxpayer B to determine the “facts or circumstances” that could preclude the facility from being an “Industrial Facility” because of the composition of the underlying natural gas deposit.

Given the vast array of fact patterns that can exist, Treasury should provide a more administrable rule that primarily focuses on the commercial nature of the relevant gas streams in determining what a manufacturing process is. The end-result should be predictability and certainty that when the CO₂ stream is captured as a by-product from a manufacturing process, the facility is per se an “Industrial Facility” and only CO₂ that is extracted solely for its standalone value is excluded from claiming the Credit.

B. Prop. Treas. Reg. § 1.45Q-2(h)(5) Definitions may improperly exclude Carbon Oxide from being “Qualified CO₂” when injected in oil reservoirs for EOR projects that are not “Qualified.”

i. Background on “Qualified CO₂”

Under Section 45Q(a), a taxpayer is entitled to the credit when it captures Qualified CO₂ using CCE placed in service at a qualified facility and either disposes it in SGS (including in a Qualified EOR project¹⁴) or utilizes it in the manner specified in Section 45Q(f)(5). Given the operation of the “Bipartisan Budget Act of 2018”, Public Law 115-123 (“BBA”), the amount of the Credit depends on the date the CCE was placed in service (whether pre-BBA or post-BBA) as well as the end-use of the Qualified CO₂. Taxpayers with Qualified CO₂ meeting the requirements of Section 45Q(a)(1) and (3) can claim higher value credits than under Section 45Q(a)(2) and Section 45Q(a)(4). Section 45Q(a)(1) and (3) each contain precisely drafted cross-references which carve-out two identified end-uses described in Section 45Q(a)(2)(B)(i)/(4)(B) (tertiary injectant in a Qualified EOR reservoir) and Section 45Q(a)(2)(B)(ii)/(4)(B)(ii) (subsection 45Q(f)(5) utilization) from the higher value credit.

The term Qualified CO₂ means any carbon dioxide which is captured from an industrial source that would otherwise be released into the atmosphere as an industrial emission of greenhouse gas or lead to such release, and is measured at the source of capture and verified at the point of disposal, injection, or utilization.¹⁵ The statute does not limit the eligible carbon dioxide based on manner in which the qualified CO₂ is eventually disposed, injected, or utilized. In the preamble to the proposed regulations, Treasury states:

The Treasury Department and the IRS agree that the statutory definition of qualified carbon oxide is clear due to the broad acceptance and use of the term by industry participants, environmental groups, and stakeholders. Therefore, the proposed regulations generally conform to the statutory definition of qualified carbon oxide.

The term SGS is not defined by statute and previous guidance only referred taxpayers to applicable EPA regulations. But the term is now defined in these proposed regulations. Similar to the credit values, the applicable standard for SGS depends on the end-use. When it is used as a tertiary injectant in a Qualified EOR project, it is disposed in SGS when it is stored in compliance with applicable requirements under 40 CFR Part 98 subpart RR or under ISO Standard 27916:2019.¹⁶ When it is not used as a tertiary injectant in a Qualified EOR project, it is disposed in SGS when it is stored in compliance with 40 CFR Part 98 subpart RR.¹⁷

In sum, the Credit is available when Qualified CO₂ is stored in SGS. Both the value of the Credit and the standard for SGS depend on the end-use of the qualified CO₂. Nonetheless, the proposed regulations provide that otherwise eligible volumes under Section 45Q(c) cease being Qualified CO₂ when used in an EOR project that is not qualified.

ii. Consistent with the statutory text of Section 45Q, Treasury should strike Prop. Treas. Reg. § 1.45Q-2(h)(5) to avoid excluding Carbon Oxide volumes from being “Qualified CO₂.”

Excluding volumes from being Qualified CO₂ when used in an EOR project that is not qualified conflicts with Section 45Q(c). As described above, Section 45Q treats Qualified CO₂ differently based on its end-use for purposes of determining the amount of credit available via the statutory mechanisms in Section 45Q(a). There is no similar statutory mechanism in Section 45Q(c) or elsewhere to disqualify otherwise eligible volumes from being considered Qualified CO₂ based on their end-use or otherwise.¹⁸ Rather, when a taxpayer uses Qualified CO₂ in an EOR project that is not qualified, it simply remains within the default rule governing Section 45Q(a)(1) and (3), instead being redirected to the Section 45Q(a)(2)(B)/(4)(B) end-use carve-outs. Therefore, Prop. Treas. Reg. § 1.45Q-2(h)(5) conflicts with the plain language of Section 45Q(c) as the statutory test does not take into account the end-use of the CO₂ when determining which volumes constitute “Qualified CO₂”.

In the same paragraph of its proposed regulations, Treasury also concludes that CO₂ injected into an oil reservoir that is not a Qualified EOR project cannot be treated as SGS. While that may not directly conflict with the statute, Treasury has not provided any reason as to why an EOR project that is not qualified is any less secure as a storage site than one that is qualified when the two projects follow the same standards. Treasury should strike Prop. Treas. Reg. § 1.45Q-2(h)(5) from the final regulations.

C. Proposed § 1.45Q-1(g) Installation of Additional Carbon Capture Equipment.

i. Background on Prop. Treas. Reg. § 1.45Q-1(g)

Under Section 45Q(b)(2)(A)(ii) and Prop. Treas. Reg. § 1.45Q-1(g)(1), existing qualified facilities installing additional CCE must split volumes between pre- and post-BBA equipment, based on a formula including “the total amount of carbon dioxide capture capacity of the CCE in service at such facility on February 8, 2018.” The installation of additional CCE occurs when the taxpayer either physically modifies or adds additional equipment that increases the capacity of the existing equipment.¹⁹ Qualified carbon oxide deemed attributable to post-BBA expansion will be eligible for a Section 45Q(a)(4) credit. The amount eligible for the Section 45Q(a)(4) credit is determined by taking the excess of qualified carbon oxide captured in a taxable year (the minuend) and subtracting the total amount of carbon dioxide capture capacity of the CCE in service at such facility as of the day before the BBA's enactment (the subtrahend). Notably, neither the statute nor the proposed regulations affirmatively define the methodology for measuring such “carbon dioxide capture capacity.”

Treasury should provide greater legal certainty on this issue necessary to reliably guide potential investment decisions, including the expansion of currently existing qualified facilities via the installation of additional CCE, by clarifying the definition of “carbon dioxide capture capacity.” In making such clarification, EAC urges Treasury to recognize that the determination must be guided by engineering fundamentals. To this end, EAC recommends that the quantification of the amount of the existing capture capacity that is installed should be determined by a competent engineering analysis of the facility, whether conducted internally within or externally for the taxpayer, before the modification of the qualified facility.

ii. In clarifying the definition of “carbon dioxide capture capacity,” Treasury should issue guidance that ensures the Current Year Carbon Oxide Captured²⁰ and the Carbon Capture Capacity²¹ are measured symmetrically.

There are at least two challenging incongruities in the statute relating to this issue. First, Section 45Q(b)(2)(A)(i) specifically measures “qualified carbon oxide”, a defined term in Section 45Q(c)(1). Conversely, Section 45Q(b)(2)(A)(ii) measures “carbon dioxide capture capacity”, which could arguably be defined more expansively than qualified carbon dioxide. Next, there is a distinction between the units of time used for measurement purposes. The taxpayer must calculate the Current Year Carbon Oxide Captured annually. Conversely, the carbon dioxide capture capacity is determined on a single day, February 8, 2018. A strict reading of the statute and the proposed regulations reveals no affirmative guidance providing that such calculation of capacity should be determined on an annual basis. Nonetheless, for methodological consistency, given that the Current Year Carbon Oxide Captured is an annual calculation, the carbon dioxide capture capacity should be calculated on an annual basis as well.

As described in Prop. Treas. Reg. § 1.45Q-1(g)(2), operating existing CCE above its capacity does not constitute the installation of new CCE. This conclusion acknowledges that that the appropriate measure of carbon dioxide capture capacity is less than its theoretical limitation. Moreover, capacity should also include adjustments attributable to operating both the CCE as well as the underlying industrial facility throughout the year. The total amount of carbon captured at the qualified facility will implicitly reflect the maintenance, facility downtime, and turn-arounds necessary to operate both the industrial facility and the CCE. Such amount of captured carbon will also reflect external limitations inherent in operating the industrial facility such as seasonal fluctuations in outdoor temperature. By providing these adjustments, Treasury can remove incremental uncertainty when making investment decisions as to which volumes will be eligible for the new credit.

Accordingly, EAC believes the Treasury should make the following adjustments to Prop. Treas. Reg. § 1.45Q-1(g)(4). First, move the examples to a new paragraph § 1.45Q-1(g)(5). Next, insert the following language into Prop. Treas. Reg. § 1.45Q-1(g)(4):

“Carbon Dioxide Capture Capacity”. The term carbon dioxide capture capacity is the capability (metric tons per year) to capture carbon dioxide less the annualized typical constraints with the industrial facility and carbon capture equipment. For purposes of this paragraph Prop. Treas. Reg. § 1.45Q-1(g)(4), annualized typical constraints means the quotient of the total amount of all regular maintenance, scheduled or unscheduled facility downtime, seasonal fluctuations in outdoor temperature, and turn-arounds associated with both the industrial facility and carbon capture equipment occurring in the 60 months prior to the day before the date of the enactment of the Bipartisan Budget Act of 2018 divided by 5.

IV. Treasury Should Ensure the Required Contractual Provisions in Prop. Treas. Reg. §1.45Q-1(h) Align with Risk Allocation and Limitations on Damages Typical of Most Commercial Arrangements.

Treasury should amend Prop. Treas. Reg. § 1.45Q-1(h)(2)(i) to eliminate its inconsistency with the allowance of liquidated damages in Prop. Treas. Reg. §1.45Q-1(h)(2)(iii)(B). Treasury should clarify that the prohibition on damage caps is applicable only in the aggregate and parties can limit damages on a per unit basis. Without harmonizing these two provisions, Treasury would be driving away most (perhaps all) reasonably prudent commercial parties from participating in such agreements due to the risk of unlimited damages.

V. Treasury Should Clarify Provisions of the “80/20” Rule for Upgraded Qualified Facilities or Carbon Capture Equipment in Prop. Treas. Reg. § 1.45Q-2(g) to Provide Enhanced Investment and Innovation in CCUS Projects.

Prop. Treas. Reg. §1.45Q-2(g)(5) formally adopts the “80/20” rule for upgraded qualified facilities or CCE.²² If the fair market value of used components (numerator) does not exceed 20% of the qualified facility or CCE's total value²³ (denominator), such equipment or CCE will be deemed placed in service after that date. The denominator includes all properly capitalized costs of a new qualified facility or CCE. Further, the denominator may (at the election of the taxpayer) include the cost of new equipment for a pipeline owned and used exclusively by that taxpayer to transport carbon oxide captured from that taxpayer's qualified facility that would otherwise be emitted into the atmosphere.

The EAC welcomes and supports the inclusion of this rule in the proposed regulations. Such inclusion will likely result in investors enhancing their deployment of CCUS projects and their adopting greater innovation in capture and storage technology.²⁴ The EAC offers the following suggestions to provide additional certainty and incentive for investment decisions which will further unleash the flow of capital into CCUS projects, generating associated clean energy and manufacturing jobs as the national economy recovers from the 2020 COVID pandemic.

A. Treasury should treat independent functioning process trains as a “unit of carbon capture equipment.”

While Treasury references a “unit of carbon capture equipment” in the examples provided in 1.45Q-2(g)(5) as well as in the recapture provisions in 1.45Q-5(g), no definition or methodology to determine the unit is provided. The determination of a unit of carbon capture equipment is included in two critical calculations: (1) the 80/20 rule and (2) the volumes of qualified carbon oxide eligible for the expanded 45Q credit under Section 45Q(b)(2).

Prop. Treas. Reg. § 1.45Q-2(c) defines CCE as all equipment necessary to capture and/or process carbon oxide until the carbon oxide is transported for disposal, injection or utilization. Similarly, Treasury should provide that each independently-functioning process train constitutes an individual unit of carbon capture equipment. Such definition is consistent with the examples in Prop. Treas. Reg. § 1.45Q-1(g)(4) where each unit of carbon capture equipment has the ability to individually capture, process, and treat the qualified carbon oxide up to the point of transportation without depending on the other units of carbon capture equipment. Treasury should also clarify that an asset utilized in a Prop. Treas. Reg. § 1.45Q-2(d)(3) manufacturing process (e.g. CO₂ is not the exclusive commercial product) is not CCE.

B. Treasury should provide guidance that the Fair Market Value (“FMV”) of the used property should be calculated as of the start of construction and use “Replacement Cost New” minus new physical depreciation to value the assets.

In Section 45Q(b)(2)(A)(ii), the determination of volumes eligible for the higher credit is based on a formula including “the total amount of carbon dioxide capture capacity of the CCE in service at such facility on February 8, 2018.” Given that the purpose of the “80/20” rule is to permit taxpayers to qualify for the new credit by allowing them to deem qualified facilities or CCE containing used equipment as placed in service after the BBA, Treasury should permit taxpayers to value that used property as of the start of construction. In order to simplify the administration of the rule and add certainty to investment decisions, Treasury should provide that taxpayers can value their property using the “Replacement Cost New” methodology with adjustments for Physical Depreciation.²⁵

Despite Prop. Treas. Reg. § 1.45Q-2(c)(3) affirmatively excluding pipelines and other assets used in the transportation of captured carbon oxide from the definition of CCE, Prop. Treas. Reg. §1.45Q-2(g)(5) relaxes this exclusion solely for the purposes of the 80/20 rule. The proposed regulations provide that the denominator in the 80/20 rule may also include other costs necessary to achieve the policy goals of Section 45Q such as new equipment for a pipeline used exclusively by the taxpayer to transport carbon oxides captured from that taxpayer's Qualified Facility that would otherwise be emitted into the atmosphere. As such, EAC recommends Treasury provide that other similar costs such as those attributable to any disposal well used exclusively by the taxpayer as necessary for achieving the same underlying policy goals be included in the denominator for purposes of the 80/20 rule.

EAC appreciates this opportunity to provide its views on these very important proposed regulations. We are available to answer any questions.

Respectfully submitted,

George D. Baker,
Williams & Jensen PLLC
Counsel for Energy Advance Center