June 22, Dear Mr. Mundaca,

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1 June 22, 2009 Mr. Michael F. Mundaca Acting Assistant Secretary (Tax Policy) Department of the Treasury 1500 Pennsylvania Avenue, N.W. Washington, D.C Dear Mr. Mundaca, On behalf of the Equipment Leasing and Finance Association (ELFA), I am enclosing for your consideration a series of frequently asked questions or FAQ s and proposed answers on key issues relating to the renewable energy component of the recently passed American Recovery and Reinvestment Act (ARRA) of 2009 (P.L ). The ELFA is a trade association representing commercial banks, financial services companies, and manufacturers engaged in the financing, utilization and investment of and in capital goods. The objective of this submission is to provide the Treasury Department and the Internal Revenue Service with specific input on member company issues arising from the ARRA relating to the financing of renewable energy projects and to elicit guidance and clarity on these issues. We would welcome the opportunity to meet with appropriate officials at the Department of Treasury and the Internal Revenue Service to discuss the issues contained in this submission. Thank you very much for your consideration. With kindest personal regards, Sincerely, Kenneth E. Bentsen, Jr. President Enclosure

2 2 cc: Mr. Eric San Juan Acting Tax Legislative Counsel Department of Treasury 1500 Pennsylvania Avenue, N.W Mr. John Parcell Deputy Tax Legislative Counsel Department of Treasury 1500 Pennsylvania Avenue, N.W Mr. Charles Ramsey Office of Chief Counsel Passthroughs and Special Industries Internal Revenue Service 1111 Constitution Avenue, N.W Ms. Victoria McDowell Risk Compliant Officer Office of the Fiscal Assistant Secretary Department of Treasury 1500 Pennsylvania Avenue, N.W

3 3 June 22, 2009 Proposed Treasury Guidance Relating to Investments in Renewable Energy Projects I. Economic Substance 1 Q. How will an investment in qualified property described in Section 48(a)(5) that generates either an investment tax credit ( ITC ) or a grant provided by 2 Section 1603 of the American Recovery and Reinvestment Act of 2009 ( ARRA ) ( Grant ) satisfy the requirement for economic substance? A. Both the ITC and the Grant were enacted by Congress to subsidize 3 investments in renewable energy projects. Consequently, in establishing the economic substance of an investment in a project described in Section 48(a)(5), the amount of the ITC or the Grant realized by an investor will be treated as cash received by the investor or be subtracted from the total investment in the qualified property prior to evaluating the investor s pre-tax 4 economics. An investment in qualified property described in Section 48(a)(5) (whether through a lease or a partnership) that satisfies the profit and Unless otherwise indicated, all Section references are to Sections of the Internal Revenue Code of 1986, as amended. Unless otherwise indicated, all references to Sections of the American Recovery and Reinvestment Act of 2009 are to Sections of Division B of that Act. ARRA Section 1603(a) states that the purpose of the Grant is to reimburse [the person who places in service specified energy property] for a portion of the expense of such property. While treatment of the ITC as part of the cash generated by the project for purposes of analyzing pre-tax profit has been customary among market participants, the analysis of the Grant as a reduction of the amount of capital invested by the investor in the project is supported by the statement in the statute that the Grant is means for Treasury to reimburse part of the cost of the project.

4 4 cash flow tests of Section 4.06 of Revenue Procedure , C.B. 1156, at the lessor or partnership level, as applicable, after treating the ITC or Grant as described above, will be treated as having economic substance for Federal income tax purposes. II. Eligibility and Timing Issues A. Original Use Requirement. Q. Does the original use of a qualified facility described in Section 48(a)(5) have to commence with the taxpayer claiming the ITC (or with the person claiming the Grant)? A. Section 48(a)(5) does not incorporate the original use requirement of Section 48(a)(3). It is not clear whether this was the result intended by Congress or an oversight. It may be applicable only to determine compliance with the effective date provisions governing Section 48(a)(5). If the original use requirement is incorporated generally into the definition of energy property described by Section 48(a)(5), the 3-month window for saleleasebacks will apply in any case where either the ITC or the Grant is claimed. 5 B. Original User in a Turn-key Sale. Q. If the original use requirement is incorporated into Section 48(a)(5), can a project developer that intends to sell all or part of a qualified facility to one or 5 If the vendor-lessee in a sale and leaseback of specified energy property originally placed in service the property within 3 months before the beginning of the lease, the property will be treated as originally placed in service when the property is used under the leaseback. See 50(d)(4) (citing old Section 48(b)(3)).

5 5 more third party investors on a turn-key basis treat all or a portion of such facility as held primarily for sale to customers in the ordinary course of its trade or business and avoid it being treated as placed in service until it is sold on a turn-key basis? A. A developer that builds a qualified facility described in Section 48(a)(5) may treat the facility or the portion it intends to sell as held primarily for sale to customers in the ordinary course of its business, allowing the purchasing investor(s) to be the first user(s). A facility that is sold on a turn-key basis i.e., after construction is completed, critical testing is satisfied and a service contract with a purchasing utility is in place would be treated as originally placed in service when the project or interest therein is acquired by the investor(s). 6 Where a partnership is used as the investment structure, the date of such acquisition would be the date on which the facility is treated as contributed to the partnership. For example, if the project is held by a limited liability company owned solely by the developer, the facility would be treated as contributed to a partnership on the date that interests in the single member limited liability company were transferred to one or more new members in addition to the selling developer. We suggest that a form be developed by the IRS that evidences a developer s intention to sell to third party investors, which if executed during construction of a project, will allow treatment of a turn-key purchaser as the original user of the project. 6 This is similar to the rule of Treas. Reg (k)-1(b)(3)(ii)(B) (regarding availability of bonus depreciation to customers of dealers in depreciable property).

6 6 C. Sale of Electricity to Third Parties. Q. Must electricity generated at a qualifying facility described in Section 48(a)(5) be sold to unrelated parties in order for the ITC or Grant to be claimed? A. No. Section 48(a)(5) defines a qualified facility by reference to Section 45(d), which does not include a requirement that electricity produced at the facility be sold to third parties. That requirement is included in Section 45(a) as a requirement for claiming the production tax credit, which is based upon the amount of electricity generated by the qualified facility and sold to third parties. D. No Application of Section 48(m). Q. Does a facility described in Section 48(a)(5) qualify for the full Grant where construction is commenced in 2008 and the facility is completed and placed in service in 2009? A. Yes. Old Section 48(m) does not apply to limit the amount of Grant otherwise available with respect to an asset placed in service during the period described in ARRA Section 1603(a)(1). E. Three-Month Window for Sale Leaseback. Q. If an asset described in Section 48(a)(5) is placed in service in 2009 or 2010 and then sold and leased back within 3 months of the in-service date, can either the lessor or lessee claim the Grant? A. Yes. If any specified energy property is the subject of a sale and leaseback within 3 months of the date it was timely placed in service, the lessor may

7 7 claim the Grant or an election may be made for the lessee to retain the Grant. The same rules apply to the ITC. 7 F. Three-Month Window for Sales of Asset and Partnership Interests. Q. If an asset described in Section 48(a)(5) is placed in service by a single member limited liability company or an entity that is treated as a partnership for federal income tax purposes and one or more interests in the single member limited liability or the partnership are sold within three months of the in-service date, can the purchaser(s) claim their share(s) of the Grant or ITC? A. Yes. A three-month window similar to the sale-leaseback three-month window will be permitted for sales of asset and partnership interests. G. Beginning of Construction. Q. When will construction be treated as commencing for purposes of the Grant? A. Construction of specified energy property will begin for purposes of the Grant program on the date physical work on construction of the property commences. Such date will be determined by application of Treas. Reg (e)(1)(ii) (iii): Physical work on construction of property does not include preliminary activities such as planning, designing, preparing blueprints, exploring, or securing financing... [However, it] may include the physical work done by a subcontractor of a component specifically designated as part of the property. Also, the commencement of physical work on construction may occur at the site different from the main site of construction 7 Old Section 48(b)(2) (3) (made applicable by 50(d)(4)).

8 8 of the property. For example, if a shipyard orders a turbine before it begins work on building a ship, the normal construction period of the ship is measured from the time the subcontractor commences physical work on construction of the turbine (if it is normal for such work to precede the work of the main contractor). H. Wind Turbine Array Treated as an Integrated Facility. Q. Can an array of wind turbines be treated as an integrated facility for determining the in-service date for purposes of the ITC and Grant? A. Yes. Taxpayers will be permitted to designate a qualifying array as an integrated facility for determining the in-service date for purposes of the ITC and Grant. A qualifying array will consist of wind turbines at a single location that are owned by the same taxpayer. A qualifying array will be treated as placed in service when the last turbine in the array is ready and available for its intended use. The rule of Q&A II.B. can also apply in conjunction with this rule. The designation of a qualifying array must be made on the tax return for the taxable year that the first turbine in the array would have been treated as placed in service absent such designation. Designation of a qualifying array shall be treated as a method of accounting that may not be changed without consent of the Commissioner.

9 9 III. Partnership Issues A. Treatment of Grant Proceeds Claimed Directly by Partners of a Partnership Q.(1) Can a Grant in respect of specified energy property placed in service by a partnership be claimed directly by one or more partners? 8 A.(1) Yes. Grant applications may be made either by the partnership that places in service the specified energy property or by one or more partners of such a partnership. Partners of a partnership may apply directly for the Grant by filing an application executed by each recipient partner and the partnership and designating the amount to be paid to each partner. A partnership that is ineligible for the Grant cannot shift Grant eligibility to its partners. The Grant will be paid only to partners that are partners of the partnership for U.S. federal income tax purposes on the day the subject specified energy property is placed in service. Q.(2) What are the basis consequences and other tax consequences of the direct receipt of the Grant by one or more partners? A.(2) Pursuant to Section 48(d)(3), the Grant generally is not includible in the gross income of the taxpayer receiving the Grant. If the Grant is paid directly to one or more partners, no adjustment is made to the basis of the specified energy property (and therefore no adjustment is made to the basis of the partnership 8 If the Grant were available only to the partnership, and not directly to partners of the partnership, a GAAP accounting-versus-tax accounting mismatch would inevitably arise from the fact that the Grant and the associated tax basis adjustments run through the partnership. These issues would be addressed if the Grant and the associated tax basis adjustment could be taken into account outside the partnership. The suggested approach would resolve an issue that is sidelining financial institutions eager to invest in renewable energy projects.

10 10 interest of any partner) as a result of the Grant award. Instead, each partner that has received a portion of the Grant will include ratably in its gross income over the shortest recovery period which could be applicable under Section 168 with respect to the specified energy property (generally 5 years) an amount equal to 50 percent of the amount of the Grant it received. 9 If recapture of a portion of the Grant received by such partner is triggered, there will be no such ratable inclusion in such partner s gross income in the taxable year during which recapture is triggered or in any subsequent year. B. Treatment of Grant Proceeds Claimed by a Partnership. Q. In cases where a partnership receives the Grant, how will proceeds of the Grant be treated for purposes of Subchapter K? A. Generally, pursuant to Section 48(d)(3) the Grant is not includible in the gross income of the taxpayer receiving the Grant but is taken into account in determining the basis of the property to which the Grant relates as adjusted pursuant to Section 50(c). A Grant received by a partnership shall be treated in the same manner as tax exempt income received by a partnership and shall increase the capital account and the outside basis of the partner to whom the Grant is allocated pursuant to Treas. Reg (b)(2)(iv)(b) and Section 705(a)(1)(B). 9 From the perspective of the Grant-receiving partners, such inclusions would be functionally very similar to curative allocations of ordinary income under Treas. Reg (c) to offset deductions the partners ought not to receive the benefits of under general Section 704(c) principles. However, these inclusions will not have any effect on the capital account or outside basis of such partners, nor will they have any effect on how actual partnership items of income, gain, deduction and credit are allocated.

11 11 C. Allocation of Grant Proceeds Received by a Partnership. Q. How will proceeds of a Grant received by a partnership for investment in qualified property described in Section 48(a)(5) be allocated pursuant to Section 704? A. Proceeds of a Grant received by a partnership for investment in qualified property described in Section 48(a)(5) may be specially allocated by the partnership, provided the allocation has substantial economic effect. In order to have substantial economic effect, an allocation of Grant proceeds must satisfy the general requirements of Treas. Reg through , and the partnership must allocate the required adjustment to the basis of the property with respect to which a Grant has been paid, 10 and any future recapture of the Grant, to the partners capital accounts in accordance with the allocation of Grant proceeds. 11 D. Allocation of ITC. Q. How will the ITC for investment in qualified property described in Section 48(a)(5) be allocated pursuant to Section 704? A. Unlike the allocation of a Grant, allocation of the ITC is not reflected in an adjustment to the partner s capital accounts (except to the extent of adjustments to the tax basis of qualified property with respect to the claim of (c). Cf. Treas. Reg (b)(2)(iv)(j) (adjustments to capital accounts in connection with ITC).

12 12 the ITC and any recapture) and therefore cannot have economic effect. 12 The rule of Treas. Reg (f), which generally provides for allocation of an investment credit in accordance with the partners interest in general profits of the partnership (that is taxable income of the partnership as described in Section 702(a)(8)) will apply to the ITC. IV. Foreign and Tax Exempt Participation A. Direct and Indirect Foreign Participants. Q. Will participation by a foreign person or entity in a project described in Section 48(a)(5) affect availability of the ITC or Grant? A. (1) Generally, Section 50(b)(4) denies the ITC to a foreign person or entity but not if more than 50 percent of the gross income for the taxable year derived by the foreign person or entity from the use of the property is subject to United States federal income tax. 13 Thus, the direct equity participation of a foreign person or entity in a project described in Section 48(a)(5) where more than 50 percent of its share of gross income from the project is subject to United States federal income tax (i) qualifies the foreign person or entity for the ITC or Grant and (ii) does not affect availability of the ITC or Grant for other participants in the project. (2) A foreign person or entity may own a corporation organized in the United States and is subject to United States federal income tax that participates in a As provided in Treas. Reg (b)(4)(ii). 168(h)(2)(B).

13 13 project described in Section 48(a)(5) without affecting availability of the ITC or Grant. 14 B. Direct and Indirect Participation by Tax Exempt Organizations. Q.(1) Will direct participation by a tax exempt entity in a project described in Section 48(a)(5) affect availability of the ITC? A.(1) The ITC is disallowed pursuant to Section 50(b)(3) for any property used by an organization exempt from United States federal income tax (other than a farmers cooperative described in Section 521) unless such property is used predominantly in an unrelated trade or business the income from which is subject to tax under Section 511. Thus, direct participation by an exempt organization can cause loss of the ITC unless the income from the project is subject to tax as unrelated trade or business income. Q.(2) Will participation in a project described in Section 48(a)(5) by a tax exempt entity through a corporate blocker 15 affect availability of the ITC? A.(2) Section 50(b)(4) incorporates the rules of Section 168(h)(5) and (6) for determining the consequences of participation by tax exempt entities. Pursuant to those rules a corporation 50 percent or more (in value) of the stock of which is owned by one or more tax exempt entities is itself treated as a tax exempt entity for certain purposes, unless an election is made to subject its tax See definition of tax-exempt controlled entity, 168(h)(6)(F)(iii). A corporate blocker refers to a C corporation that is organized under the law of the United States or of any State and is subject to United States federal income taxation.

14 14 exempt owners to the tax on unrelated business taxable income ( UBTI ) on any gain realized on the disposition of its stock and on any dividends or interest received from it. 16 Thus, if the UBTI election provided in Section 168(h)(6)(F) is made, a tax exempt entity may participate in a project described in Section 48(a)(5) through a corporate blocker without affecting availability of the ITC to the corporate blocker or other project participants. Q.(3) Will direct participation by a tax exempt entity in a project described in Section 48(a)(5) affect availability of the Grant? A.(3) Section 1603(f) of ARRA requires the Treasury to apply rules similar to the rules of Section 50 in making Grants. While Section 50 includes rules limiting participation by tax exempt entities, discussed above in part, Section 1603(g) of ARRA includes certain specific rules concerning tax exempt entities. Section 1603(g) specifically prohibits the making of Grants to (1) any Federal, state or local government (or any political subdivision, agency or instrumentality thereof), (2) any organization described in Section 501(c) and exempt from tax under Section 501(a), (3) any entity referred to in paragraph (4) of Section 54(j) or (4) any partnership or other pass-thru entity any partner (or other holder of an equity or profits interest) of which is described in paragraph (1), (2) or (3). Thus, any direct participation in a partnership or other pass-through entity by a tax exempt entity described in ARRA Section (h)(6)(F)(ii).

15 (g), even if the income would be taxed as unrelated trade or business income, would appear to result in a full denial of the Grant. Q.(4) Will indirect participation by a tax exempt entity through a corporate blocker affect availability of the Grant? A.(4) Since Section 1603(f) of ARRA incorporates the rules of Section 50 and no other provision directly addresses indirect participation through a taxable corporation, a partnership or other pass-through entity that is owned in part by a corporate blocker (that is in turn owned by a tax-exempt entity) will be eligible for a Grant in the full amount provided for by ARRA Section 1603(b) if the corporate blocker has made the UBTI election provided in Section 168(h)(6)(F). C. Power Sale Agreements to Tax Exempt Entities. Q. Can all of the capacity and/or energy from property described in Section 48(a)(5) be sold pursuant to a long term contract to a tax exempt entity (e.g., a municipality, school or hospital) without causing a loss of the ITC or Grant? A. Yes, provided the contract satisfies the requirements of Section 7701(e). In this regard, Treasury and IRS intend to work with industry groups to develop safe harbor guidance with respect to Section 7701(e) including guidance that addresses operating agreements with third party operators and purchase options by service recipients.

16 16 V. Leasing Issues A. Three-Month Window for Sale and Leaseback. Q. If an asset described in Section 48(a)(5) is placed in service in 2009 or 2010 and then sold and leased back within 3 months of the in-service date, can either the lessor or lessee claim the Grant? A. Yes. If any specified energy property is the subject of a sale and leaseback within 3 months of the date it was timely placed in service, the lessor may claim the Grant or an election may be made for the lessee to retain the Grant, as described below. The same rules apply to the ITC. 17 B. Election to Transfer Grant Eligibility to Lessee. Q.(1) May a lessor elect to transfer its Grant eligibility with respect to property described in Section 48(a)(5) to the lessee of such property? A.(1) Yes. Pursuant to rules similar to the rules of Section 50 and old Section 48(d), the lessor of specified energy property may to pass the Grant to its lessee. Q.(2) If the lessor has made a valid election to treat the lessee as having purchased the entirety of the specified energy property subject to the lease, will a disposition of the property by the lessor prior to the expiration of the recapture period trigger recapture of any portion of the Grant received by the lessee? 17 Old Section 48(b)(2) (3) (made applicable by 50(d)(4)).

17 17 A.(2) Generally, no portion of the Grant is subject to recapture under these circumstances. 18 However, if the lessor transfers ownership of the property during the recapture period to a person that would not be eligible for the Grant, such as an organization exempt from tax under Section 501(a), that transfer would trigger recapture of the Grant. 19 A disposition of the right to possess and/or use the property by the lessee would likewise result in recapture of the Grant by the lessee. 20 Moreover, any change in circumstances that causes the property to cease to satisfy the requirements of ARRA Section 1603(d) would trigger recapture of the Grant from the lessee. 21 C. Fixed Price Purchase Option in a Lease. Q. Can a true lease of qualified property described in Section 48(a)(5) include a purchase option that allows the lessee to purchase the leased property at the end of the lease term (or at a point during the lease term) for a price that is equal to or greater than a projection of future fair market value taking projected inflation into account, as determined by an expert appraiser, without affecting availability or the ITC or Grant? A. Each of the ITC and Grant are available to a lessor and, pursuant to a valid election under Section 48(d) (as in effect before the enactment of the Revenue Reconciliation Act of 1990) ( old Section 48(d) ), to a lessee in a lease that is (b)(2)(i). See (b)(2)(ii). See (b)(2)(iii). See (b)(v).

18 18 a true lease for United States federal income tax purposes. Whether a transaction qualifies as a true lease for United States federal income tax purposes is based on all of the facts and circumstances and a determination of which party bears the benefits and burdens of ownership. 22 A transaction that includes a fixed price purchase option and qualifies as a true lease based upon established case law and IRS rulings will be treated as a lease for purposes of determining the availability of the ITC or Grant. VI. Recapture A. Recapture on Dispositions other than a Sale and Leaseback. Q.(1) Will recapture of a Grant, or the ITC, result from a sale or other disposition of the asset other than a sale and leaseback? A.(1) Generally, a sale or other disposition of energy property within the 5-year recapture period will result in recapture of the ITC or Grant that has been allowed or paid with respect to that property. 23 The exceptions to this general rule, set forth in Treas. Reg , are applicable to Grant recapture as well as to ITC recapture. Thus, recapture will not be triggered by the disposition of property in a transaction to which Section 381(a) applies. 24 For example, a liquidating distribution of energy property to a parent corporation described in Section 332 will not trigger recapture of the ITC or the Grant. Recapture will not be triggered by the disposition of property that occurs by reason of a See, e.g., Rev. Proc (a)(1) (e).

19 19 mere change in the form of conducting the trade or business in which such property is used. 25 A transaction is a mere change in form for these purposes only if: The property is still energy property (in the case of the ITC) or specified energy property (in the case of the Grant) used in the same trade or business, The transferor (or in a case where the transferor is a partnership, estate, trust, or S corporation, the partner, beneficiary, or shareholder) of the property retains a substantial interest in such trade or business, 26 Substantially all the assets necessary to operate such trade or business are transferred to the transferee to whom the property is transferred, and The basis of the property in the hands of the transferee is determined in whole or in part by reference to the basis of the property in the hands of the transferor. 27 Thus, Section 351 transactions and Section 721 transactions that satisfy these requirements will not trigger recapture. The technical termination of a partnership pursuant to Section 708(b)(1)(B) is a mere change in form that does not trigger recapture of the ITC or the Grant, although the transfer by the (f). Substantial interest means, for these purposes, an interest that is either (i) substantial in relation to the total interest of all persons or (ii) equal to or greater than the interest held by the person prior to the transaction (f)(2). See Comm r v. Soares, 50 T.C. 909 (1968) (holding that a 7.22 percent shareholding in an S corp is not substantial in relation to the total interest of all persons); Treas. Reg (f)(6) Ex. 5 (50 percent is substantial in relation to the total interest of all persons); Rev. Rul (citing Soares in deciding easier case 0.6 percent is not substantial in relation to the total interest of all persons) (f)(1)(ii).

20 20 partner or partners that triggers Section 708(b)(1)(B) may result in recapture by such partner or partners. 28 B. Commencement of Recapture Period. Q. Is the recapture period with respect to an item of specified energy property for which a Grant is claimed measured from the in-service date of the asset, the date on which the Grant is applied for or the date on which the Grant is paid? A. The recapture period with respect to an asset for which a Grant is claimed is measured from the in-service date of the asset. 29 C. Grant Recapture Liability. Q. Will liability for recapture of a Grant be borne by the person actually receiving the Grant proceeds? A. Yes. The liability for recapture of a Grant will be treated as a liability imposed upon the person that received the Grant. In the case of a partnership, the partner(s) to whom the Grant was allocated or paid directly (but not the The termination of a partnership under Section 708(b)(1)(B) does not result in investment credit recapture under Section 50 and therefore should not result in Grant recapture under ARRA Section 1603(f). T.D. 8717, C.B. 125 ( Although not specifically addressed in the regulations, a section 708(b)(1)(B) termination no longer triggers recapture of the investment tax credit under the mere change in form exception in (f) of the regulations. ); see also PLR (May 18, 2000) (applying investment credit recapture regulations and holding that termination caused by contribution of interests to holding partnership did not trigger recapture of Section 42 low-income housing credit: mere change in form exception of Treas. Reg (f) prevents partnership-level recapture, and 66 ⅔ percent rule of Treas. Reg (a)(2) and Rev. Rul , C.B. 4, prevents recapture at partner level); PLR (July 19, 2004) (same); Prop. Treas. Reg. 1.45D- 1(e)(4) (2008) (no recapture of Section 45D new markets tax credit on 708(b)(1)(B) termination). 50(a)(1)(B).

21 21 partnership) will be liable for recapture. Such liability will not be treated as a liability for tax. 30 D. No Recapture on Sale and Leaseback after Three Months. Q. If the ITC or Grant is claimed with respect to an asset described in Section 48(a)(5) and the asset is the subject of a sale and leaseback transaction after more than 3 months from the date the asset is first placed in service, will the ITC/Grant be recaptured? A. No. The rules of Treas. Reg (g) apply to the ITC and the Grant. A sale and leaseback will not trigger recapture of the ITC or the Grant. E. ITC Recapture in a Partnership. Q. Will recapture of the ITC result from a reduction in a partner s interest in the general profits (taxable income) of the partnership? A. The rule of Treas. Reg (a)(2) provides that recapture of the ITC will result if there is a reduction in the partner s share of general profits (taxable income) of the partnership during the 5-year recapture period below 66 2/3 percent of the partner s proportionate share of general profits in the year the qualified property was placed in service by the partnership. 30 Based upon speech by Charles Ramsey, IRS. If Grant recapture is determined to be a liability for tax it should be treated as an income tax under Subtitle A, subject to jurisdiction of the Tax Court.

22 22 F. Grant Recapture in a Partnership (Grant Paid to Partnership). Q.(1) Will recapture of the Grant result from a reduction in a partner s interest in the general profits (taxable income) of the partnership? A.(1) No. Since allocation of the Grant is not based upon the partner s interest in general profits (taxable income) of the partnership, a reduction in such interest will not result in Grant recapture. 31 Should the partnership dispose of 31 ARRA Section 1603(f) provides that Treasury [i]n making grants under this section,... shall apply rules similar to the rules of section 50 of the Internal Revenue Code of In applying such rules, if the property is disposed of, or otherwise ceases to be specified energy property, the Secretary of the Treasury shall provide for the recapture of the appropriate percentage of the grant amount in such manner as the Secretary of the Treasury determines appropriate. (1) The statute gives Treasury the authority to provide for recapture of the Grant in any appropriate manner. (2) Whereas Section 50 provides for recapture when property ceases to be investment credit property with respect to the taxpayer that received the ITC, ARRA Section 1603 explicitly provides for recapture when (i) the property is disposed of or (ii) ceases to be specified energy property. Under Treas. Reg , which implements Section 50(a)(1) in the partnership context, when a partner s proportionate interest in the general profits of the partnership (or in the particular item of investment credit property) is reduced by one-third or more, the investment credit property of the partnership is deemed to cease to be investment credit property with respect to the partner. Under Section 50, this triggers recapture of a portion of the credit previously received by the partner, because the constructive direct relationship between the partner and the investment credit property is no longer considered to exist. Since the allocation of the Grant to partners does not depend on this constructive relationship and the reduction of the partner s interest in the partnership does not affect whether a facility is specified energy property that is owned by the partnership that placed it in service, the reduction of a partner s proportionate interest in the general profits of the partnership (or in the particular item of investment credit property) by one-third or more should not result in Grant recapture. (3) If, in administering the Grant program, the Treasury were to apply a rule as similar as possible to the recapture rule of Section 50 (which provides that tax benefits are to be recaptured if the property ceases to be qualifying property with respect to the taxpayer ) how should it do so in the partnership context? With regard to this question, the key difference between the Grant and the ITC is that the ITC is received directly by the partners whereas the Grant is to be paid to the partnership that places the specified energy property in service and then allocated to a partner or partners. The ITC rules work as follows in the partnership context. First, the credit is directly claimed by and allowed to a partner of a partnership. Treas. Reg (a)(1) states, [Investment credit] property placed in service by the taxpayer during the taxable year includes the taxpayer's share of the basis (or cost) of investment credit property placed in service by a partnership in the taxable year of such partnership ending with or within the taxpayer's taxable year. This rule was phrased so as to work in tandem with the general rule, provided explicitly by the Code at the time, that a credit was allowed with respect to property placed in service by the taxpayer. 46 (repealed). So the regulations presume a direct relationship between the property and the partner for purposes of awarding the credit. This relationship is the object of certain provisions of the recapture provisions of the Code, past and present: Section 47(a)(5) (repealed) provided, just as Section 50 does currently, that if investment credit property is disposed of, or otherwise ceases to be investment credit property with respect to the taxpayer, before the close of the recapture period, then, the tax under this chapter for the

23 23 specified energy property in a recapture transaction during the 5-year recapture period, the partner that was originally allocated Grant proceeds (or in the case of a transfer of such partner s interest that is excepted from the general Grant recapture rule by Treas. Reg , the transferee of such interest) will be allocated the recapture. Q.(2) If a partner retires from the partnership or disposes of its entire interest in the partnership, will such partner s share of the Grant be recaptured as a result? A.(2) Generally, yes. Generally, recapture of the appropriate percentage of the Grant proceeds that have been allocated to a partner or directly received by a partner will occur upon a disposition of the partner s entire interest in the partnership or the partner s complete retirement from the partnership within 5 taxable year is increased by the appropriate amount. In light of the way the credit is awarded, (i) the taxpayer being referred to by the Code s recapture rule is the taxpayer that is deemed to have placed the property in service, and (ii) property is investment credit property with respect to a taxpayer when the property and the taxpayer are related to each other just as they were when the property was deemed to have been placed in service by that taxpayer. Thus, in the partnership context, the Code provides that a portion of the credit is recaptured when the property is no longer investment credit property with respect to any partner deemed to have placed it in service. Treas. Reg was promulgated to implement this rule, specifically, to determine when investment credit property ceased to be [investment credit] property with respect to a partner in the partnership that had placed such property in service. This was the purpose and intended scope of the 66 ⅔ percent rule of Treas. Reg (a)(2). See T.D (Oct. 9, 1967). For purposes of ARRA Section 1603, property placed in service by a partnership is not deemed to have been placed in service by the partners of the partnership. This is clear from the language chosen: The Grant is awarded to the person who places in service specified energy property. ARRA 1603(a). Note that the term taxpayer is not used. The Act also provides that no Grant is to be awarded to any partnership or other passthru entity any partner (or other holder of an equity or profits interest) of which is described in [ARRA Section 1603(g)(1), (2) or (3)]. ARRA 1603(g)(4). ARRA Section 1603(g)(4) would have no meaning if property were deemed not to be placed in service by partnerships, but rather by the partners, for purposes of the Grant program. Thus, the Grant is provided not just to persons subject to tax under Chapter 1 of Subtitle A of the Code, but also to partnerships and any other persons who place specified energy property in service. A rule that provided for recapture of the Grant when property ceased to be specified energy property with respect to the taxpayer would not make much sense. The most appropriate adaptation of Section 50(a)(1)(A) to Grant recapture, therefore, is the following: If, during any taxable year, specified energy property is disposed of, or otherwise ceases to be specified energy property with respect to the person who placed in service such property, before the close of the recapture period, then the Grant shall be recaptured in the manner Treasury determines is appropriate.

24 24 years after specified energy property has been placed in service. The Grant will not be recaptured if the partner retains (directly or indirectly through any tiered partnership) an interest in the partnership so that the recapture obligation may be imposed on such partner. Additionally, no recapture results from a disposition of a partner s interest in the partnership that satisfies one of the recapture exceptions. See Q&A VI.A. G. Grant Recapture in a Partnership (Grant Paid to Partners). Q. Will the recapture rules operate differently for Grants paid directly to partners? A. No. As in recapture of a Grant paid to the partnership and allocated to a partner, a Grant paid directly to a partner will generally be recaptured upon disposition of the specified energy property or a disposition of the partner s entire interest in the partnership or retirement from the partnership, unless an exception applies. See Q & As under F., above. VII. Davis-Bacon Q: Will the Davis-Bacon wage standards apply to projects that receive a Grant? A: No. Because the Grant is not provided for in Division A of ARRA, the Davis- Bacon wage standards will not apply to a project by virtue of its receiving a Grant The requirement set forth in ARRA Div. A, Section 1606 that projects assisted by the Federal Government pursuant to this Act follow the Davis-Bacon wage rules applies only to projects assisted pursuant to Division A of ARRA. ARRA 4 (References).