PLR 1326009: Solar project may qualify as placed in service despite temporary curtailment

Plain-English summary

The IRS ruled that a solar power project would not be prevented from being treated as placed in service in the target year if an unfinished network upgrade caused temporary curtailment of the project's electricity production. The project was expected to have its permits, licenses, critical tests, grid connection, control, and regular operations in place, and to have full capacity deliverability status under the applicable power purchase agreements and grid rules. The IRS applied the placed-in-service rules for the energy credit and depreciation under sections 48, 167, and 168. The ruling was conditioned on the taxpayer otherwise satisfying the relevant placed-in-service factors and did not decide when the project was actually placed in service.

Ruling snapshot

• Question: Would an unfinished network upgrade and resulting temporary curtailment prevent the solar project from being placed in service in the target year?
• Outcome: Approved
• Key authorities: IRC §§ 48, 167, and 168; Treas. Reg. §§ 1.48-9, 1.167(a)-11, and 1.46-3

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 201326009 Third Party Communication: None
Release Date: 6/28/2013 Date of Communication: Not Applicable
Index Number: 167.19-00, 48.00-00
Person To Contact:
------------------------ ------------------------, ID No. ------------------
-------------------------- ----------------------------------------------------
---------------------------------------- Telephone Number:
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-------------------- Refer Reply To:
--------------------------------- CC:PSI:B06
PLR-144688-12
Date:
March 21, 2013

Re: Request for Private Letter Ruling Under Sections 48 167, and 168

LEGEND

Taxpayer = ----------------------------------------
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Holdco = --------------------------------------------------------
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Member1 = ---------------------
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Member2 = ---------------------
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State1 = --------------
State2 = --------------
Project = ------------------------------------
County1 = ------------------
County2 = ----------------------------
Product = ------------------------------------------------
Segment = ------------------------------------------------------------------------------------------

A = ------------------------------
B = ---------------------------------------------------
C = -------------------------------------------------------
Number1 = -----
Number2 = ----
Number3 = -----
Number4 = ------------
Year1 = -------
Year2 = -------
Date1 = ---------------------------
PLR-144688-12 2

Date2 = ------------------------

Dear ---------------:

  This letter responds to a letter dated October 5, 2012, and supplemental

correspondence, submitted by Taxpayer requesting a private letter ruling that certain
circumstances will not prevent the Project from being placed in service in Year1 for
purposes of sections 48, 167, and 168 of the Internal Revenue Code.

                                               FACTS

    Taxpayer represents that the facts relating to its request are as follows:

   Taxpayer, a State1 limited liability company, is a developer of renewable energy

projects. Taxpayer uses the accrual method of accounting.

   Taxpayer is developing a Number1 megawatt solar photovoltaic (PV) power

generation facility in State2 that is referred to as the Project. Taxpayer has two
members, Member1 and Member2, both of which are disregarded entities for Federal
tax purposes. The first regarded entity in the ownership chain of both Member1 and
Member2 is Holdco.

    Taxpayer is building the Project in County1 and County2 of State2. The main

components of the Project include (i) Product, each of which is a Number2 megawatt
alternating current PV block, (consisting of solar panel modules mounted on a single-
axis tracking system), a Number2 megawatt alternating current inverter station, and a
medium voltage step-up pad mount transformer; and (ii) the electrical gathering and
transmission facilities, including electrical substations. The Project will have Number3
Products, totaling Number4 solar panel modules and Number3 inverters.

   By Date2, physical construction will have been completed on all components of

the Project, all of the components will have been commissioned and accepted, a final
commissioning certificate will have been issued for the Project as a whole, the Taxpayer
will have all the permits and licenses needed to operate, the Project will be
synchronized to the power grid, legal title and control over the Project will have been
conveyed to the Taxpayer, and the Project will be transmitting energy on a regular and
routine basis.

  The electricity generated by the Project will be connect to the grid and transmit

power through A, owned and operated by B. The grid is controlled by C. The electricity
generated will be sold to B under a power purchase agreement. Under the power
purchase agreement, the point of interconnection to the grid and delivery of the
PLR-144688-12 3

electricity is A. Under the power purchase agreement, the Project must achieve full
capacity deliverability status, which is measured not only by the quantity and quality of
the electricity produced by the Project but also by the completion of various deliverability
and reliability network upgrades (the network upgrades) to the network by B. All of the
network upgrades are expected to be completed by Date2. However, the upgrade to
Segment is the subject of litigation by local residents and such litigation may delay the
installation of the upgrade beyond Date1. C, the controller of the grid, has determined
that the Project will achieve full capacity deliverability status even if the upgrade to
Segment is not installed. However, production of electricity by the Project may be
curtailed by B during the installation of the upgrade to Segment under instructions from
C to protect transmission system reliability.

                              RULING REQUESTED

   Taxpayer requests the following ruling:

The Project will not be precluded from being in placed service in Year1 for purposes of
sections 48, 167, and 168 if more frequent than anticipated curtailment of the Project
occurs due to unanticipated delays in completing Segment.

                               LAW AND ANALYSIS

   Section 48(a) of the Code provides for an energy credit equal to 30 percent of the

cost basis of qualifying energy property placed in service before January 1, 2017.

  Section 48(a)(3)(A)(i) of the Code provides that energy property includes

equipment which uses solar energy to generate electricity, to heat or cool (or provide
hot water for use in) a structure, or to provide solar process heat, excepting property
used to generate energy for the purposes of heating a swimming pool.

   Section 1.48-9(a)(2) of the Income Tax Regulations provides that in order to

qualify as “energy property” under § 48 of the Code, property must be depreciable
property with an estimated useful life when placed in service of at least three years and
constructed after certain dates.

   Section 1.48-9(d)(1) of the regulations provides as follows:

   (d) Solar energy property—(1) In general. Energy property includes solar energy

property. The term “solar energy property” includes equipment and materials (and parts
related to the functioning of such equipment) that use solar energy directly to (i)
generate electricity, (ii) heat or cool a building or structure, or (iii) provide
hot water for use within a building or structure. Generally, those functions are
accomplished through the use of equipment such as collectors (to absorb sunlight and
create hot liquids or air), storage tanks (to store hot liquids), rockbeds (to store hot air),
PLR-144688-12 4

thermostats (to activate pumps or fans which circulate the hot liquids or air), and heat
exchangers (to utilize hot liquids or air to create hot air or water). Property that uses, as
an energy source, fuel or energy derived indirectly from solar energy, such as ocean
thermal energy, fossil fuel, or wood, is not considered solar energy property.

    Section 1.48-9(d)(3) of the regulations provides, in part, that solar energy

property includes equipment that uses solar energy to generate electricity, and includes
storage devices, power conditioning equipment, transfer equipment, and parts related to
the functioning of those items. Such property, however, does not include any equipment
that transmits or uses the electricity generated.

    Section 167(a) provides a depreciation deduction for the exhaustion, wear and

tear, and obsolescence of property used in a trade or business or held for the
production of income. The depreciation deduction provided by section 167 for tangible
property placed in service after 1986 generally is determined under section 168. This
section prescribes two methods for determining depreciation allowances. One method
is the general depreciation system in section 168(a) and the other method is the
alternative depreciation system in section 168(g). Under either depreciation system, the
depreciation deduction is computed by using a prescribed depreciation method,
recovery period, and convention.

   For purposes of the general depreciation system, the depreciation method,

recovery period, and convention are determined by the property’s classification under
section 168(e). Section 168(e)(3)(B)(vi) provides that 5-year property includes any
property (modifying the language of section 48(a)(3)(A)(i)) which is equipment which
uses solar or wind energy to generate electricity.

   Section 1.167(a)-11(e)(1)(i) of the Income Tax Regulations provides, in part, that

property is first placed in service when first placed in a condition or state of readiness
and availability for a specifically designed function. It further provides that the provisions
of section 1.46-3(d)(1)(ii) and (d)(2) generally apply for purposes of determining the date
on which property is placed in service.

   In general, property is placed in service in the taxable year the property is placed

in a condition or state of readiness and availability for a specifically designed function.
See sections 1.46-3(d)(1)(ii) and 1.167(a)-11(e)(1)(i). Placed in service is construed as
having the same meaning for purposes of the investment tax credit under section 46
and depreciation under section 167. Section 1.46-3(d)(2) provides examples of when
property is in a condition of readiness and availability. One of those examples is
equipment that is acquired for a specifically assigned function and is operational but
undergoing tests to eliminate any defects. See also Rev. Rul. 79-40, 1979-1 C.B. 13,
where machinery and equipment were placed in service in the year critical tests (with
appropriate materials) and operational tests were completed. Another example in
section 1.46-3(d)(2) involved operational farm equipment acquired and placed in service
PLR-144688-12 5

in a taxable year even though it was not practical to use such equipment for its
specifically designed function in the taxpayer’s business of farming until the following
year.

     Several Tax Court cases have addressed placed in service questions in the

context of electric power plants. In Olgethorpe Power Corp. v. Commissioner, T.C.
Memo. 1990-505, and Consumers Power Co. v. Commissioner, 89 T.C. 710 (1987),
facilities can be deemed placed in service upon sustained power generation near rated
capacity. However, if the facility operates on a regular basis but does not produce the
projected output, it may still be considered placed in service. Sealy Power, Ltd v.
Commissioner, 46 F.3d 382 (5th Cir. 1995), nonacq. 1995-2 C.B. 2. In the Action on
Decision for Sealy Power, the Service stated that at a minimum, the property would
have to have been in a state of readiness sufficient to produce electricity on a sustained
and reliable basis in commercial quantities. AOD 1995-010. Finally, in Rev. Rul. 84-85,
1984-1 C.B. 10, a solid waste facility that was experiencing operational problems such
that it was unable to operate at its rated capacity was nonetheless considered to have
been placed in service since it was being operated on a regular basis and saleable
steam was being produced. However, if a facility is merely operating on a test basis, it
is not placed in service until it is available for service on a regular basis. Consumers
Power v. Commissioner, 89 T.C. at 724.

    The above-referenced cases and revenue rulings provide that the following are

common factors to be considered in determining placed in service dates for power
plants:

   (1) approval of required licenses and permits;
   (2) passage of control of the facility to taxpayer;
   (3) completion of critical tests;
   (4) commencement of daily or regular operations; and,
   (5) synchronization into a power grid for generating electricity to produce income.

See generally, Rev. Rul. 76-256, 1976-2 C.B. 46, and Rev. Rul. 76-428, 1976-2 C.B.

47. These factors are not exclusive – they are used as guideposts to determine
    whether, looking at the totality of the facts and circumstances, a facility has been placed
    in service.

    The focus in determining a placed in service date is on ascertaining from the
    relevant facts and circumstances the date the unit begins supplying product in such a
    manner that it is routinely available and is consistent with the unit’s design. It is
    necessary to examine relevant factors occurring both before and after the claimed
    placed in service date so that the date can be verified. However, a facility does not
    have to achieve full design output to be placed in service as long as it is in the process
    of ramping up its production levels. Subject to exceptions that are beyond the
    taxpayer’s control, the Service has generally required actual operational use as a
    PLR-144688-12 6

prerequisite for an asset to be deemed placed in service. See, e.g., SMC Corp. v.
United States, 675 F.2d 113 (6th Cir. 1982).

   To be qualified energy property for purposes of the § 48 energy credit the facility

must be placed in service before January 1, 2017. Similarly, the period for tax
depreciation of 5-year property begins when the depreciable solar equipment is placed
in service. For purposes of the § 48 energy credit, a facility is placed in service when it
would be placed in service for depreciation purposes. Thus, the project is placed in
service when it is placed in a condition or state of readiness and availability for a
specifically assigned function, that is, to produce and deliver electricity generated from
solar energy.

  Based on the facts provided and applying those facts to the factors delineated in

Rev. Rul. 76-256, the Taxpayer represents that, as of Date 1:

   (1) all necessary permits and licenses with respect to the Project will have been
   obtained;
   (2) the Project will have been synchronized to the power grid for its function of
   generating electricity for production of income;
   (3) the critical tests for the various components of the Project will have been
   completed;
   (4) the Project will have been placed in the control of the Taxpayer; and,
   (5) Taxpayer expects to have produced and sold more than a de minimis amount
   of electricity generated by the Project.

   Taxpayer further represents that it is expected that all network upgrades will be

completed before Date1. Further, if the upgrade to Segment is not completed by Date1,
the Project will nevertheless have full capacity deliverability status under the power
purchase agreements and the rules governing the grid. Thus, the Project will be
considered placed in service prior to Date1.

   If the upgrade to Segment is not completed by Date1, power produced by the

Project may be curtailed during certain periods while that upgrade is being installed.
However, the Project is ready and available for use and capable of producing
commercial quantities of electric power. Temporary curtailment for reasons beyond the
control of Taxpayer does not affect the status of the Project as being placed in service.
See, Yellow Cab Co. of Pittsburgh v. Driscoll, 24 F.Supp. 993 (W.D. Pa 1938).

                                 CONCLUSIONS

   Accordingly, based solely on the representations submitted by Taxpayer and the

applicable law discussion above, we conclude that the Project will not be precluded
from being in placed service in Year1 for purposes of sections 48, 167, and 168 if the
PLR-144688-12 7

upgrade to Segment is not completed by Date1 and that results in curtailment of the
power produced by the Project for certain periods while the upgrade is being installed.

  The above ruling is expressly conditioned upon Taxpayer otherwise meeting the

placed in service factors of Rev. Rul. 76-256 for the Project before January 1, 2017, and
upon the operation of the Project in accordance with Taxpayer’s representations.

   Except as specifically set forth above, we express no opinion concerning the

federal tax consequences of the facts described above under any other provisions of
the Code. Specifically, no opinion is expressed or implied as to the entity classification
of Taxpayer, Holdco, Member1 or Member2, or on when the Project is actually placed in
service by Taxpayer.

 This letter ruling is directed only to Taxpayer. Section 6110(k)(3) provides that it

may not be used or cited as precedent.

  In accordance with the power of attorney, we are sending a copy of this letter to

Taxpayer’s authorized representative. We are also sending a copy of the letter ruling to
the appropriate operating division director.

                                             Sincerely,


                                             Peter C. Friedman
                                             Senior Technician Reviewer, Branch 6
                                             Office of Associate Chief Counsel
                                             (Passthroughs and Special Industries)

Enclosures (2):
copy of this letter
copy for section 6110 purposes

cc: