NORTHAMPTON, MA / ACCESSWIRE / May 14, 2024 / Baker Tilly
Clarifying Tax Credit Transfers
Originally published by Baker Tilly
Authored by Robert Moczulewski, Jeronimo Aldrete
On April 30, 2024, the Treasury Department and the IRS released the final regulations for section 6418, detailed in the Federal Register. These regulations are designed to clarify how the elective transfer of tax credits under section 6418 should be implemented.
General rules and definitions
The general rules and definitions for the proposed section 1.6418-1 outlined the guidelines for transferring eligible tax credits. Any definitions that did not receive specific feedback from commenters during the consultation process were adopted as initially proposed in this Treasury decision.
Eligible taxpayer
Section 6418(f)(2) of the Internal Revenue Code defines an "eligible taxpayer" as any taxpayer not specifically excluded under section 6417(d)(1)(A), encompassing individuals and entities subject to any U.S. internal revenue tax, whether they have an income tax obligation or not. The regulations solidify this definition, rejecting proposals to include taxpayers solely under U.S. territory taxation, thereby aligning closely with the traditional definition provided in section 7701(a)(14). Moreover, clarifications about partnerships partly owned by "applicable entities" confirm that such partnerships qualify as eligible taxpayers if they haven't elected to be treated as applicable under certain credits like sections 45Q, 45V or 45X. These partnerships are thus entitled to transfer the full number of eligible credits linked to their owned properties, though limitations may apply if partners are tax-exempt or government entities.
Eligible credit property
Section 6418(a) allows eligible taxpayers to elect to transfer all or specified portions of an eligible credit associated with any of their eligible credit properties for any taxable year. The term "eligible credit property" is defined as the unit of property owned by an eligible taxpayer from which the amount of an eligible credit is derived, according to proposed section 1.6418-1(d). This definition is crucial as it identifies the specific properties that can generate transferable tax credits. Proposed sections 1.6418-1(d)(1) through (11) specify what constitutes an eligible credit property for each of the 11 eligible credits, aligning each property type with the corresponding tax credit provision, such as energy properties under section 48 or qualified facilities under section 45. These details ensure that the rules for registration and election for credit transfer are tightly coupled with the inherent requirements of each eligible credit type.
Paid in cash
Section 6418(b)(1) mandates that any consideration paid by a transferee taxpayer to an eligible taxpayer for the transfer of tax credits must be made in cash. This requirement is detailed in proposed section 1.6418-1(f), where "paid in cash" is specifically defined to include payments made in United States dollars through various methods such as cash, check, cashier's check, money order, wire transfer, Automated Clearing House (ACH) transfer, or other bank transfers that make funds immediately available. Furthermore, these payments must occur within the timeframe starting from the first day of the eligible taxpayer's taxable year when the specified credit portion is determined and ending on the due date for completing a transfer election statement.
Specified credit portion
Section 6418(a) allows eligible taxpayers to elect to transfer any portion of an eligible credit related to their eligible credit property. The term "specified credit portion" is defined in proposed section 1.6418-1(h) as any proportionate share, including the entirety, of an eligible credit linked to a single eligible credit property, as specified in the transfer election. This definition includes both the base eligible credit and any bonus credit amounts that contribute to the total eligible credit calculated for a property. Consequently, the regulations stipulate that an eligible taxpayer cannot separate bonus credit amounts from the base credit for individual transfer (horizontal credit transfer). Instead, taxpayers are permitted only to transfer entire eligible credits or portions thereof, which encompass proportionate shares of any bonus amounts (vertical credit transfer).
Rules for making transfer elections
General rules for making a transfer election
Under section 1.6418-2, the regulations outline an approach for eligible taxpayers who want to transfer their tax credits. Key aspects include:
- Specificity of elections: Each transfer election must be specific to a single eligible credit property. This requirement ensures precise accounting and tracking of transferred credits. For instance, if a taxpayer has eligible credits from two different properties, they need to file separate elections for each property, ensuring clarity and compliance with the tax laws.
- Multiple transfers: Taxpayers are allowed to make multiple transfer elections within a single tax year, provided the sum of these transfers doesn't exceed the total credit amount determined for any given property. This flexibility allows taxpayers to strategically manage their tax liabilities by distributing credit portions to different transferees as needed.
The upcoming section "Manner and due date of making transfer election" provides more details.
Special rules for different ownership scenarios
Ownership of the credit can vary, and the regulations adapt to these variations by offering specific guidelines:
- Diverse ownership structures: The rules accommodate credits owned through various structures such as disregarded entities, undivided interests, members of consolidated groups, and entities like partnerships and S corporations. This ensures that all types of business structures can effectively manage their tax credits according to their specific ownership conditions.
- Trust ownership: In situations where a trust holds the eligible credit property, the regulations specify that the grantor or the person treated as the owner according to section 671 of the Code is responsible for making the transfer election. This clarification helps in situations where the ownership might be split or indirect, as is often the case with trusts.
Restrictions on making transfer elections
Certain restrictions apply to ensure the integrity of the transfer process:
- Prohibition on progress expenditures: Credits associated with progress expenditures are ineligible for transfer. This rule prevents the premature transfer of credits for projects that are not yet completed, ensuring that the credits claimed and transferred are firmly grounded in completed and operational projects.
- Requirement for cash considerations: The transfer of credits must involve cash considerations. This requirement is in place to avoid complications that might arise from non-cash considerations such as property exchanges or services, which could complicate the valuation and transfer process.
- Eligibility based on credit determination: A transfer election can only be made for credits that are directly determined in relation to the taxpayer making the election. This prevents the transfer of credits that the taxpayer does not have a direct claim to, such as those that might be attributed to another party due to specific contractual arrangements or legislative provisions.
Manner and due date of making a transfer election
The final regulations define the manner and due dates for making transfer elections of tax credits by eligible taxpayers, ensuring compliance and streamlining the process. Here's a detailed explanation of these provisions:
General requirements for transfer elections
According to the final regulations, each eligible taxpayer must make a transfer election for specified credit portions based on each single eligible credit property. This means that if a taxpayer has eligible credits associated with multiple properties, a separate transfer election is required for each property. This stipulation ensures that each property's credits are handled distinctly, allowing for clearer accountability and administration of the credits.
Special rules for certain eligible credits
For specific types of credits, particularly those under sections 45, 45Q, 45V, and 45Y, the election must be made separately for each facility and for each taxable year during the credit's effective period. For example:
- Section 45 and 45Y credits: Elections must be made annually for each of the 10 years beginning on the date the facility was originally placed in service.
- Section 45Q credits: Elections are required for each of the twelve years starting from when the carbon capture equipment was placed in service.
These rules ensure that credits are meticulously tracked and managed throughout the operational life of each facility, reflecting the ongoing eligibility for these credits based on continued compliance and performance.
Manner of making a valid transfer election
Making a valid transfer election involves several documentation and procedural requirements:
- Tax return filing: The election must be made as part of the annual tax return process, which includes filing a properly completed relevant source credit form for the taxable year in which the credit was determined.
- Form 3800, General Business Credit: This form, or its successor, along with a schedule showing the amount of eligible credit transferred for each property, must be attached.
- Transfer election statement: Detailed in proposed section 1.6418-2(b)(5), this statement is essential for the election process.
- Registration number: The registration number obtained during the pre-filing registration must be included on the relevant credit source form. This number ties the election to a specific credit property and helps track the transfer accurately.
These regulations aim to facilitate an organized and transparent approach to transferring tax credits, ensuring that all procedural and documentation requirements are met to maintain the integrity and intended benefit of the tax incentives. This approach helps manage and monitor the flow of credits, ensuring they are correctly attributed and utilized in accordance with the law.
Due date and original return requirement of a transfer election
The final regulations specify the due date and requirements for making a transfer election of tax credits under section 6418, ensuring clarity and compliance:
- Timing of election: The election to transfer any portion of an eligible credit must be made no later than the due date (including any extensions) of the tax return for the year in which the credit is determined. The earliest a transfer can be initiated is 180 days after the enactment of section 6418.
- Original return requirement: The transfer election must be filed on an original return, not an amended return or through an administrative adjustment request (AAR). This includes a superseding return, which is a return filed after the originally filed return but before the due date (including extensions). This ensures the election is part of the formal tax reporting for that fiscal year without any retrospective changes except for correcting factual errors.
Restrictions on amended returns and adjustments
- No new elections on amended returns: Transfer elections cannot be initiated or withdrawn through an amended return or AAR. However, if there is a numerical error in a properly claimed transfer election, such as a miscalculation of the credit amount or a typographical mistake in the registration number, it can be corrected on an amended return or by filing an AAR.
- Correcting errors: An amended return or AAR can be used to correct errors on the original return where a transfer election was made if those errors could potentially deny the transfer election. This allowance helps to rectify mistakes that could affect the validity of the election without impacting the integrity of the original transaction.
Implications of corrections on transfers
- Adjustments affecting credit amounts: If adjustments made on an amended return or AAR result in changes to the amount of the eligible credit:
- Increase in credit amount: If there's an increase in the eligible credit amount upon correction, it must be reported on the amended return but cannot be applied retroactively to increase the transferred credit amounts previously elected.
- Decrease in credit amount: Reductions in credit amounts first apply to any retained credits by the eligible taxpayer and then proportionally reduce the amounts transferred to transferees. If multiple transferees are involved, the reduction is distributed on a pro rata basis.
Transfer election statement
- Definition and documentation: A transfer election statement is a document that outlines the transfer of a specified credit portion between an eligible taxpayer and a transferee. This document must be labeled as a "transfer election statement" and attached to the tax returns of both the transferring and receiving parties.
- Content requirements: The statement must include the following.
- Identification information for both the transferee and eligible taxpayer.
- Detailed calculations and information necessary for the transferee to account for the transferred credit portion related to the eligible credit property.
- An attestation confirming that the parties are not related as defined by sections 267(b) or 707(b)(1) of the Tax Code.
- Confirmations from both parties regarding compliance with all relevant requirements to make a valid transfer election.
- Notifications of any recapture requirements applicable under section 6418(g)(3) and associated regulations.
- A statement from the eligible taxpayer affirming that all required documentation has been provided to the transferee.
- Authority and consent: The statement must be signed under penalties of perjury by someone authorized to legally bind the eligible taxpayer and must include written consent from a similarly authorized individual on the transferee's side.
Timing and validity of the transfer election statement
- Timeliness: The transfer election statement must be completed and submitted no later than the due date (including extensions) of the eligible taxpayer's tax return for the year in which the credit is determined.
- Documentation standards to transferee: The statement must meet minimum documentation standards, which include validation of the eligible credit property's existence, proof of compliance with bonus credit requirements, and evidence of qualifying costs or production activities related to the credit.
Additional considerations
- Flexibility in documentation: Any document, including a partnership agreement, can serve as a transfer election statement if it meets the outlined requirements. This provides flexibility in how agreements are documented and formalized.
- Ongoing responsibilities: Even after transferring credits, the original eligible taxpayer retains responsibility for any increased credit amounts applicable due to prevailing wage and apprenticeship requirements. This ensures that compliance and accountability remain with the party initially claiming the credit.
Transferee treatment of eligible credit
- Taxable year: The regulations reemphasize specific transfer timing of eligible tax credit depends on the tax years of both the eligible taxpayer and transferee taxpayer and not on the placed in service date of an eligible credit. The transferee taxpayer cannot take into account the eligible credit until its first taxable year ending after the date of the eligible taxpayer's taxable year in which the eligible tax credit is placed in service.
- No gross income: There will be no recognition of gross income for the difference between the tax credit claimed and the cash paid for the eligible credits.
- Transferee taxpayer treated as eligible taxpayer: Rules applicable to sections 38 and 469 passive activity rules will apply to the transferee taxpayer regarding passive credit rules. Limited application of material participation and grouping rules could apply in specific circumstances where the transferee taxpayer owns an interest at the time the eligible tax credit work is completed. This assumes that the transferee taxpayer is not related to the eligible taxpayer within the meaning of sections 267(b) and 707(b)(1).
These regulations aim to ensure that all transfer elections are conducted with due diligence and proper documentation, safeguarding the integrity of the tax credit transfer process and ensuring that both parties adhere to statutory and regulatory requirements.
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