Carbon capture and sequestration (CCS) has increasingly become an option to reduce greenhouse gas (GHG) emissions. The increased interest in CCS technologies and methods of reducing GHG is resulting from several factors, chiefly among them being the federal tax credit for carbon oxide sequestration. The Internal Revenue Code’s (IRC) Section 45Q was established to incentivize investment in carbon capture and sequestration. Without these Section 45Q tax credits, investors may not find it economical to capture and sequester CO2 or other carbon oxides as sequestration, other than through EOR or other industrial uses, likely will have no associated revenue stream.
Another possible incentive to develop a CCS project would be for the potential carbon credits that can be generated and sold to the open market. Any project would have to meet the stringent methodology and rules set by a major carbon registry, but CCS projects have nevertheless been successful in this endeavor.
Geological sequestration is intended to permanently trap emissions from anthropogenic sources, such as power plants or industrial facilities. CO2 can also be sequestered when injected underground for oil recovery, also known as enhanced oil recovery (EOR). Currently, CO2 used for EOR comes predominantly from natural underground CO2 reservoirs, although small quantities also come from anthropogenic sources. An emerging technology to capture CO2 directly from the atmosphere, direct air capture (DAC), could also serve as a source of CO2 injected for geological sequestration or EOR.
IRC Section 45Q was enacted on October 3, 2008, by the Energy Improvement and Extension Act of 2008 to provide a credit for the sequestration of carbon oxide. The legislation included several provisions designed to encourage taxpayers to install carbon capture equipment on their industrial facilities and permanently sequester captured carbon oxide. The section contained a mandate from Congress for Treasury to issue regulations, but the IRS and Treasury never circulated any regulations.
The tax credit for carbon oxide sequestration is computed per metric ton of qualified carbon oxide captured and sequestered. Before 2018, the tax credit was exclusively for CO2. Section 45Q offers a tax credit that varies from just under $12 up to $50 for each metric ton of carbon captured and sequestered, depending on the timing and type of project.
Amendments to the Section 45Q tax credit have been made several times to further incentivize the construction and use of carbon capture and sequestration projects in order to reduce GHG, including:
The expansion and reform of IRC's section 45Q reduces the cost and risk to private capital of investing in the deployment of carbon capture technology across a range of industries, including electric power generation, ethanol and fertilizer production, natural gas processing, refining, chemicals production, and the manufacture of steel and cement. It should also provide a significant boost to emerging industries like those seeking to develop markets for carbon capture based on agriculture practices.
The rule creates potentially significant tax benefits for any company involved in a carbon capture project for which construction begins prior to January 1, 2026. Qualified facilities must capture a minimum volume of qualified carbon oxide per year; however, there is no maximum amount that may be captured and still qualify for the Section 45Q tax credit.
For the purposes of the tax credit, qualified carbon oxide is a carbon oxide that would have been released into the atmosphere if not for the qualifying equipment. If the captured carbon oxide is intended to be sequestered, it must be disposed of in “secure geological storage” which includes storage at deep saline formations, oil and gas reservoirs, and unminable coal seams. The EPA requires a Class II permit for traditional EOR projects when the injection is for the purpose of producing oil and gas. When the primary purpose of CO2 injection is geological sequestration, the EPA requires a Class VI permit, which imposes additional requirements for the siting and construction of the well.
The taxpayer must repay the tax credit ("credit recapture") to the Treasury if the carbon oxide ceases to be captured, disposed of, or used in a qualifying manner (i.e., if it escapes into the atmosphere). The post-credit claiming period is the five-year period after the taxpayer’s last credit. A leak during this period can lead to recapture. Recapture is computed by allocating the leaked qualified CO to previously claimed credits on a last-in, first-out basis, going back no more than five years, which is the lookback period.
Equipment placed in service before 2/9/2018:
Equipment placed in service on 2/9/2018 or beyond:
The U.S. Treasury Department revealed three major proposals for enhancing the Section 45Q tax credit:
The Infrastructure Investment and Jobs Act provides that a section 45Q project can be financed with tax-exempt section 142 bonds issued after December 31, 2021, but this will reduce any section 45Q credit arising from the project.
If a sequestration project is owned by a partnership, investors should be able to claim these tax credits. Generally, to be recognized as a partner for tax purposes, an investor must bear economic risks and rewards of the partnership business and have a reasonable expectation of pretax profit.
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