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Presented by:Presented by:
Presented by:
• James Ahern, Synchrony Financial• Bill Reilly, Grant Thornton• Brian Davey, Grant Thornton• John Haas, Grant Thornton
Federal Tax Credits
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The Many Flavors of Tax IncentivesPrincipal types of tax incentives:
Additional or accelerated deductions Exclusions from income Credits Grants Financing vehicles
– Tax‐exempt bonds– Tax‐credit bonds
Non tax incentives:– Direct payments– Government sponsored loans
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General Rules for Business Tax Credits• Most business credits governed by General Business Credit rules (IRC sec. 38)– Offsets tax dollar for dollar– Can only offset tax, does not generate refunds.– Cannot be used against alternative minimum tax– Carryback one year, carryforward 20 years.– Generally require current deductions to be reduced by the amount of the credit, limiting benefit of credit.
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Expense Reduction Limits Benefits of Credits• Example: A $100 investment eligible for a 30% credit produces a tax benefit of $19.50.– $30 credit– LESS $30 lost deduction times 35% tax rate (‐$10.50) – EQUALS benefit of $19.50.
• Generally same result for government grants, since taxpayer will not take basis equal to amount of grant.
Presented by:
Comparison of Benefits• Additional deductions – cash and financial statement benefit equal to additional deduction times tax rate.
• Accelerated deduction – cash benefit resulting from time value of money, no financial statement benefit
• General business credits and grants – cash and financial statement benefit equal credit/grant times (one minus tax rate)
• Financing vehicles – lower borrowing costs, other factors may influence.
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Research Credits• 20 – Percent
– Of the excess of – qualified research expenses, over the "base amount" (1984 – 1988)
– Of basic research payments, over the qualified organization base period
• 14 – percent Alternative Simplified Credit– Of the excess of ‐ qualified research expenses, over 50‐percent of the average qualified research expenses for the three preceding taxable years
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• Research Credit ‐ New Proposed Regs• Issued January 2015• New definition of internal use software• Software that interacts with customers• Safe harbor for dual use software• Clarify exception for high threshold of innovation standard
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• Research Credit ‐ Definition of internal use software
• General & Administrative functions, limited to:– financial management – human resource management – support services
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• Why important?• Classifying software as non‐IUS is important because the
associated software development activities need only satisfy the regular 4 part test in the Code– permitted purpose– technological in nature– elimination of uncertainty– process of experimentation
Research activities related to IUS remain subject to the "high threshold of innovation standard, which has 3 additional tests
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• Research Credit – proposed reg provides:– software that enables a taxpayer to interact with third parties is not internal use software
– helpful to taxpayers that develop software that is not sold, e.g. – executing banking transaction, receiving services over the internet
Dual function software – regs presume that software is developed 'primarily' for internal use if it serves both general and administrative and non‐ general and administrative function
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• Research Credit ‐ Dual function software safe harbor• Identify elements of software that only enables the
taxpayer to interact with third parties • If not possible to isolate third party function, a safe harbor
allows for 25% of the qualified research expenditures (QREs)of the dual function software to be credit eligible
• Safe harbor met if 10% of dual function software is for third party use
• Other 75% of the QREs must meet the 3 additional tests in the high threshold in innovation test
Presented by:
• Research Credit – Innovation Standard– Innovative– Significant economic risk– Not commercially available
• Regs clarify that innovation standard doesn't require a creation of new technology. A use of existing technologies in new ways may qualify
• Effective date – IRS will not challenge positions consistent with proposed regs for years ending after Jan, 20, 2015
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• Low‐income housing credit (§42)– Pursuant to section 42 of the Code, created by Congress in 1986 and made permanent in 1993
– Tax credits are generated for 10 years with a 15 year compliance period
– Limited by housing credit dollar amount allocated to the building
– Approximate after‐tax yield of 5‐10%– New accounting standard introduced in 2014 – ASU 2014‐01
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• Low‐income housing credit (§42)
ASU 2014‐01 – Accounting for Qualified Affordable Housing ProjectsIf certain conditions met, investor may amortize cost of investment and present as a component of tax expense, in proportion to the tax credits and other tax benefits it receives
Five Conditions:• probable that the tax credits allocable to the investor will be available• investor does not have the ability to exercise significant influence over the limited
liability entity• substantially all of the projected benefits are from tax credits and other tax benefits – e.g
‐ operating losses • based solely on cash flows from the credits and losses, the projected yield from project is
positive • investor is a limited liability investor in the limited liability entity for both legal and tax
purposes
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Amortization of the cost (less residual value, if any)
of the investment
Benefit of current tax credits
Benefit of current tax deductions that arise from project's operating losses
Low income housing credit (§42)Investors applying the proportional amortization method recognize the following three items in current tax expense (benefit):
+ +
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Proportional Amortization Example from ASU – 2014‐01
Bank makes $100,000 investment in a qualified affordable housing project in exchange for a 5% limited partnership interest
• Partnership finances the $4M project with 50% equity and 50% debt• Annual tax credit equal to 4% of the original cost of property each year for 10
years (with a minimum investment commitment of 15 years)• Depreciation is determined using the straight‐line method over 27.5 years• Deductions are limited to the initial investment of $100,000• Annual tax loss is equal to depreciation expense/deduction (project is
otherwise break‐even)• Bank's tax rate is 40%
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Proportional Amortization Example from ASU – 2014‐01 (Cont.)
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Proportional Amortization Example from ASU – 2014‐01 (Cont.)
• (A) Reflects the end of the year investment for a 5% limited liability interest in the project, net of the periodic amortization in column (B)
• (B) Computed as the initial investment of $100,000 x (total tax benefits received during the year in column (F) – total anticipated tax benefits over the life of the investment of $120,000 shown as the total of column (F)
• (C) 4% annual tax credit on Bank's 5% share of the $4M project• (D) Straight‐line depreciation occurs over 27.5 years ($4M x5% = underlying assets of
$200K divided by 27.5 years), limited to the amount of the initial $100,000 investment• (E) Calculated as the net losses/tax depreciation x 40% tax rate• (F) Column (C) + Column (E)
Presented by:
• Low‐income housing credit (§42)
New Disclosures ‐ apply to all investments, not just those using proportional amortization
• amount of LIHTC and other tax benefits recognized during the year• carrying value of the investment on the balance sheet• amount of any commitments or contingent considerations• amount of amortization recognized in income taxes• amount of investment income (for those under the equity method)• amount and nature of impairment losses
Effective DateEffective for interim and annual periods beginning after December 15, 2014
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Investment Credits• Rehabilitation Credit (§47)
– 20% of qualified rehabilitation expenditures for a certified historic structure– 10% of qualified rehabilitation expenditures for any other qualified
rehabilitated building– Qualified rehabilitated building must have been placed in service before 1936 – Credit claimed when rehabilitation placed in service, but– May claim with respect to qualified progress expenditures– Must reduce basis by the amount of the credit.
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Energy Credit (§48)
• 30% ‐ Credit– Solar– Fuel cells– Small wind
• 10% ‐ Credit– Geothermal– Micro‐turbines– Combined heat and power (CHP, or CoGen)
Investment Credits
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Energy Credit (§48)
• Placed in service on or before 2016• Relief when "construction begins" before 2016• Post‐2015 – solar credit will be decreased from 30 to 10‐
percent • Original use/ constructed by taxpayer• Basis reduction – 50‐percent of the credit
Investment Credits
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General Business Credits• *New Markets Tax Credit (§45D)
– EXPIRED IN 2014– 2015 Legislation has been introduced to make this credit permanent. – Credit = 39% of original issue cash investment in a qualified community
development entity• Years 1 ‐ 3: % = 5%• Years 4 – 7: % = 6%
– Qualified community development entity (QCDE)• Primary mission ‐‐ serving, or providing investment capital for, low‐income
communities or low‐income persons.• Must maintain accountability to residents of low‐income communities through
their representation on any governing board of the entity or on any advisory board to the entity.
• Certified by the Director of the Community Development Financial Institutions Fund
– Credit must be allocated to the QCDE
Presented by:
• What does a tax exempt do with its credits?– Sell them?– Get legislation to allow direct transfer?– Bring in a partner who can claim them.
• What standards must be met?– Partnership agreement cannot be a disguised sale – Virginia Historic (CA‐4)– In order to be a "partner," the investor must have a "meaningful stake in the
success or failure of the partnership." Historic Boardwalk (CA‐3)– “[t]he realistic possibility of upside potential ‐ not the absence of formal caps ‐ is
what governs this analysis." Castle Harbour (CA‐2)
Historic Boardwalk Hall caseMust be "bona fide" partner to claim credits
Presented by:
• No meaningful stake in the success or failure of the partnership;• Return on investment was guaranteed prior to its contribution.
– historic rehabilitation tax credits that were equivalent to its investment– investment risk was nonexistent because it was not required to make a capital contribution
until a certain level of renovation progress generated tax credits equivalent to the contribution.
• Tax benefit guaranty• Project was fully funded before the partnership was formed, making partnership
contributions unnecessary for the completion of the project.• No potential upside because the transaction was structured in such a manner that the
corporation would not receive any interest in the rehabilitated property.• Background indicated a sale of credits was contemplated
Historic Boardwalk Hall caseWhere did things go wrong?
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• Credits expired at the end of 2014– Research and experimentation credit– Work opportunity tax credit– Alternative fuel vehicle refueling property credit– Two‐ or three‐wheeled plug‐in electric vehicle credit– Second generation biofuel producer credit– Biodiesel and renewable diesel credits– Credit for production of Indian coal– Indian employment tax credit– New markets tax credit– Credit for certain expenditures for maintaining railroad tracks– Credit for construction of new energy efficient homes– Credit for energy efficient appliances– Mine rescue team training credit– Employer wage credit for activated military reservists– Empowerment zone credits
Political Aspects of Federal Tax CreditsExpired and Expiring Credits
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• Financial statement dislocations
• Inability to make proper plans and projection
• Historic tendency for Congress to provide retroactive extension
Political Aspects of Federal Tax CreditsThe problem created by "temporary" credits
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The Retroactive Extension Tradition
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Political Aspects of Federal Tax CreditsCan Credits Survive Tax Reform?
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• Research Credit– Alternative Simplified Credit rate increased to 20%– Traditional credit allowed to expire– Small (< $50 m. gross receipts), private companies allowed to offset min tax
• Enhanced charitable contribution rules • Charitable contributions from IRAs• Itemized deductions for state and local sales taxes• 5‐year BIG period for S corporations• Higher §179 expensing levels
2015: Permanent Extenders Pass House
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• 50% Bonus depreciation• Above‐the‐line deduction for $250 of teacher expenses• CFC‐related payment look‐through rule• Subpart F exemption for active‐financing income• 15‐year cost recovery for qualified leasehold improvements,
qualified restaurant buildings and improvements, and qualified retail improvements
Additional Permanent Extenders Reported by Ways and Means
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Investing In Solar ProjectsWhich Generate
Investment Tax Credits
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How it Works…
Major Components of a PV Solar Energy Facility
Offtaker
Inverter – One or more convert the energy from DC to AC
Solar Panels Tied to the GridPurchaser of Power ‐
Ordinarily under a 20‐year PPA
Presented by:
Investment Tax Credits (§48 IRC)
30% Credit of the Cost of Certain Qualified Property
Earned When the Asset is Placed in Service (“PIS”)
Recapture Period for ITCs is Five Years From the PIS Date
Presented by:
Investor Return Components
• Tax Credits
• Depreciation
‒ Generally a five year period for the panels and inverters
• Cash flow
‒ Realized from the PPA as energy is produced
Investor
Typically a publically‐traded C Corporation. The Investor receives its returns from tax and theeconomics of the investment with a premium on the tax benefits. Under a typical structure, a taxpartnership is created in which the ownership of the facility is in the hands of the Investor. Whenthe Investor has received its benefit, ownership flips to the developer, who is the ManagingMember of the Partnership.
Presented by:
Project EntitySpecial Purpose Entity
Tax Equity
ITCs=30% Project Costs
Debt Service
Conventional Project Based Finance
Senior Debt FacilityInvestment FundTax Credit Investor
Owns 100%Non‐Member Manager
Sale of Power Cash Payments under PPA“Take or Pay” Contract7
DeveloperMember Manager
Investment Grade Utility
Direct Investment Structure(Alternative Structures Include “Inverted Lease” and “Sale Leaseback”)
Annual After‐Tax IRR: 8% ‐20%*
*Risk weighted
1%
99%
Presented by:
Accounting Treatment‐ GAAP Deferral Method
Bank Regulatory Issues (Selective)‐ Volker Rule ‐ OCC‐ Bank Holding Company
Investment and Regulatory Issues
Presented by:
Bill ReillyGrant Thornton
60 Broad Street | 24th FloorNew York, NY 10004
212‐324‐[email protected]
James D. Howard, Jr.Dudley Ventures
22 East Jackson Street Phoenix, AZ 85004602‐759‐5301
Contact Information
