IRS Releases Proposed Regulations for Section 45V Hydrogen Production Credit

Last week, the Internal Revenue Service (“IRS”) and Department of the Treasury published proposed regulations (the “Proposed Regulations”) relating to the tax credit for production of clean hydrogen under Section 45V of the Internal Revenue Code (“45V Credits”).  The Proposed Regulations are available here.  The White House released a statement, available here, with respect to the Proposed Regulations at the same time as their release.  The IRS will review written comments before finalizing these regulations, and will also hold a public hearing on March 25, 2024.  Written comments must be submitted by February 26, 2024. 

Background

The amount of 45V Credits is equal to the product of the kilograms of qualified clean hydrogen produced at a qualified facility multiplied by the applicable credit amount shown in the table below, which varies depending upon the lifecycle greenhouse gas emission rate of the process through which the qualified clean hydrogen is generated.  The following table shows the applicable credit amount, in each case assuming the facility producing the hydrogen is eligible for the 5 times multiplier based on compliance with the applicable prevailing wage and apprenticeship requirements (if the wage and apprenticeship requirements are not satisfied, the applicable credit amount would be one-fifth of the amount shown below).

The 45V Credit is available to taxpayers for a 10-year period, beginning on the date the applicable facility is placed in service.  Further, the hydrogen must be produced in the United States in the ordinary course of a trade or business of the taxpayer for sale or use (albeit that such sale or use is not required to occur domestically), the production and sale or use of the hydrogen must be verified by an unrelated third party, and construction of the facility must begin before January 1, 2033.  The credit amount is subject to adjustment for inflation.

Proposed Regulations

The Proposed Regulations provide guidance relating to computation of lifecycle greenhouse gas (“GHG”) emissions, verification requirements, anti-abuse rules, and other rules in connection with the 45V Credit.  Select rules from the Proposed Regulations are described more fully below.

Computing lifecycle greenhouse gas emissions

Because the lifecycle GHG emissions rate in the hydrogen production process is a critical factor in determining the amount of 45V Credits available for a particular facility, industry participants have been anxiously awaiting details on precisely how this computation must be made. 

The statute itself provides that GHG has the same meaning as Section 211(o)(1)(H) of the Clean Air Act (42 USC 7545(o)(1)(H)), and that GHG for this purpose only includes emissions through the point of production (well-to-gate), as determined under the most recent Greenhouse gases, Regulated Emissions, and Energy use in Transportation model (commonly referred to as the “GREET model”) developed by Argonne National Laboratory. The GREET model is similarly used to determine lifecycle GHG emissions in other federal and state compliance programs related to (renewable) transportation fuel, such as the Renewable Fuel Standard (“RFS”) and the California Low Carbon Fuel Standard (“LCFS”).

Proposed Regulations § 1.45V-1(a)(8) requires taxpayers to determine lifecycle GHG emissions under the most recent GREET model, which is defined as the latest version that is publicly available on the first day of the taxable year during which the qualified clean hydrogen for which the taxpayer is claiming the 45V Credit was produced.  However, a taxpayer may use as the most recent GREET model any new version that becomes publicly available during the applicable taxable year.  Emissions included in the lifecycle GHG analysis (and included in the current GREET model) include emissions associated with feedstock growth, gathering, extraction, processing, and delivery to a hydrogen production facility.  It also includes the emissions associated with the hydrogen production process, inclusive of the electricity used by the hydrogen production facility and any capture and sequestration of carbon dioxide generated by the hydrogen production facility.  If the GREET model does not provide a rate associated with a particular hydrogen production process, taxpayers may file a petition for a provisional emissions rate (“PER”).  The Proposed Regulations provide details about the PER petition process, the intent of which appears to be a pathway to increased inclusiveness of qualified hydrogen production pathways (to the extent of unrated emissions), subject to any applicable limitations.

For purposes of determining a lifecycle GHG emissions rate for a facility using the applicable GREET model or PER, the taxpayer may treat the hydrogen production facility’s use of electricity, if applicable, as being from a specific electricity generating facility rather than being from the regional electricity grid if the taxpayer acquires and retires qualifying “energy attribute certificates” (“EACs”) (such as RECs) for each unit of electricity the taxpayer claims from that source. 

This means, for hydrogen production facilities to qualify for the highest 45V Credit rates described above, the facility will be required to tie its electricity used to produce hydrogen to a solar, wind, or other low-or zero-emitting GHG electricity producing facility.  With dedicated electricity generating facilities, this should not be challenging since this concept is a cornerstone of existing virtual power purchase agreements associated with such facilities.  However, the Proposed Regulations include a number of requirements for a qualifying EAC, most notably adopting incrementality (additionality), temporal matching, and deliverability requirements (known as the “Three Pillars”), that may prove challenging for hydrogen producers to satisfy, at least in the short term.

Incrementality.  The electricity generating facility that produced the unit of electricity to which the EAC relates must either have been placed in service no earlier than 36 months before the hydrogen facility was placed in service, or the electricity generating facility had an uprate (i.e., an increase in nameplate capacity) within such time frame. The incrementality requirements are supplemented by requests for comment related to, for example, whether qualified hydrogen production would be the basis for avoided retirements of certain electric generation facilities, notably nuclear facilities.

Temporal matching.  The electricity represented by the EAC must be generated in the same hour that the taxpayer’s facility used electricity to produce hydrogen, provided that an annual matching concept applies until 2028. We anticipate that this pillar of the Proposed Regulations will receive substantial commentary, particularly given the existing industry divide as to whether annual or hourly matching will assist (or harm) the inception of the US hydrogen market. It is a notable data point that the European Union earlier this year imposed a monthly matching requirement until 2030 with respect to qualified hydrogen projects that are to receive government subsidies.

Deliverability.  The electricity represented by the EAC must be generated by a facility that is in the same region as the hydrogen production facility, albeit that the Proposed Regulations define “region” as the balancing authority in which both the hydrogen production facility and the generation source of the EAC are located—the use of this construct is derived from the Department of Energy Needs Study released in October 2023, which maps balancing authorities in relation to electricity transmission needs. Relatedly, the Proposed Regulations explain that the use of balancing authorities for the deliverability requirement is the result of the increased likelihood of transmission constraints with respect to the interregional delivery of power as opposed to power delivery within the same balancing authority.

The stated objective behind these EAC requirements is to ensure that the highest 45V Credit rate is reserved for hydrogen production that does not utilize electrolyzers that (indirectly or directly) draw electricity from high-GHG sources, such as fossil fuels.  As discussed, there has already been significant debate about the impact these limitations will have on the nascent hydrogen production industry, and as the IRS and Treasury look to adopt final regulations, we expect a wide spectrum of industry comments.

Verification requirements

The Proposed Regulations also detail the requirements for unrelated third-party verification of hydrogen produced, and sold or used in a qualifying manner.  Notably, the credit is available for the taxable year in which qualified clean hydrogen production occurs, even if the verification is not performed during such year.  However, a taxpayer is not eligible to claim the 45V Credit until all verification requirements have been satisfied, so as a practical matter verification must be completed by the time the taxpayer files its tax return for the applicable year. There remains an open question as to whether the IRS and Treasury will mandate certain criteria with respect to third party verifiers of qualified hydrogen, or if it instead expects to rely on existing market practices and participants.

Rules for modified or retrofitted facilities

The Proposed Regulations include rules relating to modified or retrofitted facilities, including the familiar 80/20 rules relating to a new placed in service date for retrofitted facilities.

Additional special rules

Finally, the Proposed Regulations put forth rules relating to carbon oxide sequestration, the establishment of anti-abuse rules and also set out parameters with respect to the use of renewable natural gas (“RNG”) and fugitive methane in qualified hydrogen production.  As a general matter, no 45V Credit is allowed for qualified clean hydrogen production at a facility that includes carbon capture equipment for which the Section 45Q carbon capture and sequestration credit is allowed.  Anti-abuse rules provide that no 45V Credits are allowable if the primary purpose of the production and sale or use of qualified clean hydrogen is to obtain the benefit of the tax credits in a manner that is wasteful, such as the production of hydrogen that the taxpayer knows or has reason to know will be vented, flared, or used to produce hydrogen (cyclical production).  A determination of whether the anti-abuse rules apply is based on all facts and circumstances.

Notably, the Proposed Regulations also indicate that (a) the IRS and Treasury will explore whether the Three Pillars approach to incrementality, deliverability and matching could be applicable to RNG in the same manner as electricity—with respect to deliverability, for example, book and claim accounting methods already exist under the LCFS for RNG and (b) relatedly, the environmental attributes of RNG procured for hydrogen production could not be counted towards “compliance with other policies or programs,” which plausibly raised questions as to the relationship between 45V Credit eligibility and environmental attributes generated pursuant to the RFS and state-level low carbon fuel standards.

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Foley & Lardner will continue to monitor these developments, including any changes between the Proposed Regulations and adopted final regulations.