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How to Pay for Infrastructure: Not by Taxing Carbon

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Posted on May 17, 2021

Over the past month, President Biden has proposed bold spending plans and equally ambitious tax increases on corporations and individuals to go along with them.

But Biden has refrained from suggesting major new taxes in one area that’s frequently mentioned as ripe for them and that has more bipartisan and business support than any other. Rather than proposing a comprehensive carbon tax or even higher gasoline taxes, the president has opted for piecemeal incentives for favored energy-efficient projects coupled with plans to repeal provisions he says benefit fossil fuels.

In advocating for much higher corporate taxes, which economists criticize as relatively inefficient and distortionary, rather than a broad tax on what’s generally considered an underpriced public good, Biden has distanced himself from a revenue-raising tool that could achieve bipartisan consensus, fund the administration’s spending plans, and reduce carbon consumption. His energy tax proposals could also exacerbate another key concern: corporations that have book income but pay no income tax.

The third of a series on various ways to fund infrastructure, this article analyzes the administration’s ideas for using the tax code to advance its climate agenda, as well as the merits and challenges of alternatives such as a carbon tax and other fuel consumption taxes. (Prior analysis: Tax Notes Federal, Apr. 26, 2021, p. 530; and Tax Notes Federal, Mar. 29, 2021, p. 1976.)

Biden’s Energy Proposals

Biden’s Made in America Tax Plan seeks to promote nascent green technologies via targeted tax incentives; encourage adoption of electric vehicles; support further deployment of alternative energy sources, such as solar and wind power; and end what it characterizes as long-entrenched subsidies for fossil fuels.

The plan says incentives for clean energy production and investment are insufficient to match the massive scope of our climate problems and promises to substantially expand them to address that. It would offer a new incentive for long-distance transmission lines to carry clean energy to consumers and increase incentives for electricity storage projects to ensure a more reliable and climate-friendly supply. The proposed 10-year extension and phase-down of an expanded direct pay investment and production tax credit for clean energy generation and storage would be paired with strong labor standards to ensure the creation of quality union jobs.

The new production tax credit would be paired with investment in 15 decarbonized hydrogen demonstration projects in distressed communities to spur capital-project retrofits and installations. To accelerate responsible carbon capture deployment and ensure permanent storage, the plan would reform and expand the section 45Q credit, making it direct pay and easier to use for hard-to-decarbonize industrial applications, direct air capture, and power plant retrofitting.

Although the administration has proposed major corporate tax increases, it has also highlighted areas where it thinks corporate tax laws inappropriately penalize green energy incentives. Although it’s mostly critical of the base erosion and antiabuse tax as insufficiently tough on base erosion, it also says the regime is too harsh on companies that otherwise would benefit from clean energy tax credits. Similarly, its minimum book tax would impose additional taxes on the difference between book and taxable income for some companies but includes a carveout for others benefiting from green energy incentives, providing a credit for taxes paid above the minimum book tax threshold in prior years for research and development and clean energy.

The plan includes targeted tax incentives for consumers as well, including to encourage switching to electric vehicles and efficient appliances and investing to increase the resilience of households and small businesses to droughts, wildfires, and floods.

In the American Jobs Plan, the administration highlighted its proposed spending on clean-energy-related infrastructure projects, such as by building a more resilient electric transmission system and establishing a grid deployment authority at the Department of Energy. It suggested leveraging nuclear and hydropower, as well as a new energy efficiency and clean electricity standard to reduce electricity bills and pollution and encourage more efficient use of infrastructure. It also proposed additional targeted energy spending, including $50 billion for a new technology directorate at the National Science Foundation, $30 billion for R&D funding to spur innovation and job creation especially in rural areas, and $40 billion in upgrading lab research infrastructure to be allocated across federal research agencies.

The administration says that together, its tax incentives would help precipitate a shift toward cleaner energy and create high-paying jobs in green industries, putting the country on the path to achieving 100 percent carbon-free electricity by 2035.

According to the administration, tax preferences for oil, gas, and coal producers decrease their tax liabilities relative to other industries, which leads to lower overall tax receipts and shifts energy production away from cleaner alternatives, undermining long-term energy independence and the fight against climate change. The Treasury Office of Tax Analysis has indicated that eliminating subsidies for fossil fuel companies would increase government tax receipts by more than $35 billion in the coming decade, mainly affecting oil and gas corporate profits. According to the administration, those kinds of changes would have little effect on gasoline or energy prices for U.S. consumers or on U.S. energy security.

Senate Democrats’ Energy Proposals

Some Senate Democrats recently released a plan for advancing green energy incentives through the tax code. In introducing the Clean Energy for America Act (S. 1298) on April 21, Finance Committee Chair Ron Wyden, D-Ore., criticized the code’s energy tax provisions as “a hodgepodge of more than 40 temporary credits that don’t effectively move us toward the goals of reducing carbon emissions and lowering electricity bills for American families.” He said the plan would toss those credits aside and replace them with “emissions-based, technology-neutral credits to turbocharge investment in clean electricity, clean transportation and energy conservation.”

Senate Democrats have also proposed:

  • an emissions-based credit for facilities with zero or net negative carbon emissions that would allow any new zero-emission facility to elect either a production tax credit of up to 2.5 cents per kilowatt-hour or an investment tax credit of up to 30 percent;

  • a full-value ITC for critical grid improvements such as stand-alone energy storage and high-capacity transmission lines;

  • long-term incentives for battery and fuel cell electric vehicles and electric vehicle charging, as well as a technology-neutral tax credit for domestic production of clean transportation fuels (provided they are 25 percent cleaner than average); and

  • performance-based tax incentives for energy-efficient homes and commercial buildings whose value would increase as more energy is conserved.

Like the administration’s proposal, the Senate bill would repeal tax incentives for fossil fuels, including expensing of intangible drilling costs; percentage depletion; deductions for tertiary injectants; and credits for enhanced oil recovery, marginal oil wells, coal gasification, and advanced coal projects.

At an April 27 Finance Committee hearing on climate change and the tax code, Alex Brill of the American Enterprise Institute testified against the targeted incentives proposed by Biden and the Senate Democrats, arguing that “it is difficult (if not impossible) for a subsidy agenda to be technology-neutral,” and that “fixed-rate production tax credits may appear neutral but have disparate impacts on carbon mitigation.” According to Brill, “explicitly pricing carbon is the optimal way to reduce CO2 emissions.” That testimony was not warmly embraced by the committee.

A Carbon Tax Alternative

The Climate Leadership Council

The administration’s lack of support for a comprehensive price on carbon is confounding because before becoming Treasury secretary, Janet Yellen had been a strong advocate for one. She’s among the founding members of the Climate Leadership Council (CLC), a group focused on promoting effective, fair, and lasting climate solutions through a carbon dividends plan. CLC’s diverse membership includes Microsoft, Ford, Goldman Sachs, Johnson & Johnson, ExxonMobil, and the World Wildlife Fund. The organization says a carbon tax offers the most cost-effective way to reduce carbon emissions at the needed scale and speed, and that by correcting a well-known market failure, would send a powerful signal that harnesses the invisible hand of the marketplace to steer economic actors toward a low-carbon future.

The CLC’s Carbon Dividends Plan has four components: a gradually rising carbon fee on fossil fuel companies, which it projects would halve U.S. carbon emissions by 2035; a carbon dividend payment of the fee’s net revenue to all U.S. citizens (it suggests a family of four would receive about $2,000 a year); a border carbon adjustment that would charge a fee on foreign goods at the border; and the removal of what the group refers to as “redundant” carbon regulations.

The CLC believes a carbon tax that increases every year until emissions reductions goals are met would encourage technological innovation and large-scale infrastructure development. It also said the tax should be revenue neutral to avoid debates over the size of government. Returning the revenue to citizens through equal lump sum rebates is intended to maximize the fairness and political viability of a rising carbon tax. The group says most American families would receive more in carbon dividends than they would be required to pay in increased energy prices. (When the plan was first proposed, the idea of providing payments to all U.S. taxpayers was novel — the pandemic’s stimulus checks demonstrated its viability.)

Fifteen former chairs of the Council of Economic Advisers and more than 3,500 economists have signed on to the dividend proposal. John Kerry, the first U.S. special presidential envoy for climate, has also endorsed a carbon tax, writing that “one of the most significant ways that we can address climate change is through carbon pricing.”

Early in 2020, the CLC published a bipartisan climate roadmap with more policy specificity. Other business groups that have advocated for a carbon price include the Business Roundtable (which strongly opposes the administration’s proposed corporate tax increases), the American Petroleum Institute, and the U.S. Chamber of Commerce.

Congressional Support

Carbon pricing has received congressional support — albeit not from the members of the Finance Committee — and at least one proposed bill has bipartisan backing. On May 7 Reps. Brian K. Fitzpatrick, R-Pa., and Salud O. Carbajal, D-Calif., reintroduced the Market Choice Act to eliminate the gas tax and institute a fee on carbon emissions, with the revenue used to fund infrastructure development.

In late April, a group of Democratic House members introduced a proposal for a carbon fee in the Energy Innovation and Carbon Dividend Act of 2021 (H.R. 2307) (a similar bill was introduced in 2019), and in 2019 a group of Democratic senators introduced a bill proposing a carbon fee.

In short, support for a carbon fee is widespread and growing, with the administration being a notable exception.

Gasoline Tax

Increasing the gasoline tax, which hasn’t been raised in almost three decades, can raise revenue and address climate change concerns on a smaller scale using an existing platform. The gas tax is now the funding mechanism for the Highway Trust Fund, so debates over it feed directly into the infrastructure debate.

Because the purchasing parity of the gasoline tax has decreased while revenue needs for infrastructure have grown, numerous proposals have been made for increasing the tax and indexing it to inflation. In a recent summary of options for reducing the deficit, the Congressional Budget Office indicated that raising the gas tax by $0.15 a gallon and indexing it to inflation would increase revenue by $237 billion over 10 years.

Despite concerns that the gas tax is regressive, proposals to increase it have received bipartisan support. The Problem Solvers Caucus, a bipartisan group of 58 House members, released a report that proposes alternatives such as indexing gas and diesel taxes to inflation or replacing the fuel tax with a mileage-based user charge to pay for infrastructure.

The administration opposes an increase in the gas tax. White House press secretary Jen Psaki has said that Biden doesn’t think infrastructure should be paid for in gas taxes imposed “on the backs of Americans,” and that “corporations should be able to bear the brunt for investing in America’s workers.” But it’s inconsistent to refer to climate change as an “existential threat” while simultaneously suggesting that Americans shouldn’t have to bear any cost of addressing it.

Carbon Border Adjustments

A border adjustment is an important part of any carbon pricing proposal, and it’s increasingly a flashpoint in global trade tensions. It’s effectuated by taxing imports and providing a rebate for exports, adjusted for the amount and pricing of carbon used in producing the good. It’s intended to level the playing field between domestic and foreign producers and reduce the risk that companies will move their production to locations that impose fewer taxes on carbon consumption.

The administration’s statements on carbon border adjustments have been confusing and conflicting: Despite not indicating any support for a comprehensive carbon pricing plan, the administration has suggested it would consider a carbon border adjustment. At the same time, it has warned the EU against proceeding with its own plan for a carbon border adjustment.

Earlier this year, an EU committee adopted a resolution in favor of a carbon border adjustment mechanism intended to be compatible with the EU’s WTO obligations; a formal proposal is expected from the European Commission by June. Support for an EU carbon border adjustment has been growing for a while, along with recognition that the lack of one could undermine EU goals. The preliminary proposal is linked to plans to reform the EU’s emissions trading system and would cover imports of products and commodities included in the trading system, adding other sectors by 2023.

A July 2020 EU consultation paper presents some alternatives on how to impose a carbon border adjustment that are relevant in considering how the United States might proceed down a similar route: a border tariff on selected imports from industries at risk of carbon leakage; an extension of the EU emissions trading system to imports, requiring foreign producers or importers to purchase emission permits, combined with a requirement for exporters to purchase emission permits from a separate pool; and a carbon tax on the consumption of selected products from sectors at risk of carbon leakage.

EU adoption of a carbon border adjustment will put more pressure on the United States to adopt a comprehensive pricing mechanism. Otherwise, it would be handing over to the EU potential revenue from increased costs associated with carbon consumption.

The IMF has recently stated its strong support for a carbon fee and border adjustment. At the global climate change summit hosted by the United States in April, IMF Managing Director Kristalina Georgieva said that to meet climate change targets, the average global price of $2 a ton for carbon should increase to $75 a ton by 2030. The IMF presented proposals for an international carbon price floor for large emitters through various mechanisms, including a carbon tax or trading system. Georgieva indicated that any pricing floor would have to allow for differences in countries’ economic development.

The Mysterious Missing Tax

Given the strong backing by some senior administration members, economists, international organizations, and some lawmakers of both parties, Biden’s lack of support for a comprehensive carbon pricing mechanism is a mystery. One factor might be concern over a lack of political will, as evidenced by the experience in Washington state, which for a decade rejected carbon tax measures after strong lobbying from many fronts, including environmental groups.

However, in April the Washington Legislature passed a comprehensive carbon pricing measure that will go into effect in January 2023 if a new transportation spending package is also approved. The state will have to determine a cap on emissions that drops over time and create a market for trading pollution allowances, with the pricing to increase gradually to encourage emissions reductions. The revenue is to be used for renewable energy projects, reducing emissions from buildings and transportation, and adapting to climate change.

Advocates of comprehensive carbon pricing have found plenty to critique in the Washington legislation. But the state’s long and convoluted path to success also shows that enacting a system isn’t politically impossible. It’s a puzzle why Biden isn’t backing a plan that could raise considerable revenue and advance his climate change agenda in favor of fragmented and less-efficient approaches. The political energy the administration is spending on attempting to achieve consensus on a global corporate minimum tax that’s unlikely to ever be adopted could instead be channeled to garner support for a global carbon price floor.

Mindy Herzfeld is professor of tax practice at University of Florida Levin College of Law, of counsel at Ivins, Phillips & Barker, and a contributor to Tax Notes International.

DOCUMENT ATTRIBUTES
Jurisdictions
Subject Areas / Tax Topics
Magazine Citation
Tax Notes Int'l, May 17, 2021, p. 859
102 Tax Notes Int'l 859 (May 17, 2021)
Tax Notes Federal, May 17, 2021, p. 1013
171 Tax Notes Federal 1013 (May 17, 2021)
Authors
Tax Analysts Document Number
DOC 2021-19352
Tax Analysts Electronic Citation
2021 TNTF 94-3
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