The Internal Revenue Service (IRS) has issued a final rule that defines energy properties, including geothermal heat pump (GHP) systems, and outlines the conditions under which GHP system owners qualify for the energy tax credit. Those circumstances require ownership of both coil condensers and heat pump equipment to be eligible for the tax credit, according to the rule.

The IRS announced the final rule—Definition of Energy Property and Rules Applicable to the Energy Credit—in a Federal Register last month - the same day it became effective. The IRS says the document contains “rules relating to the energy credit, including rules for determining whether investments in energy property are eligible for the energy credit” that will “impact taxpayers who invest in energy property.”

The final rule says because “both the coils and heat pump are necessary to perform the function of the GHP property, (and) ownership of only the coils or only the heat pump is not ownership of the entire unit of energy property and therefore, is not ownership of GHP property, as statutorily defined.” Because ownership of more than one part of a GHP system is required to claim the tax credit, the owners of singles components of a GHP system cannot claim a tax credit for the operation of that component, according to the IRS.

Section 48 of the Internal Revenue Code (IRC) allows for the investment tax credit (ITC) and provides general requirements for all types of energy properties to be eligible for the credit and those requirements also sets limits on energy-property eligibility for the credit.

“Energy property consists of all the components of property that meet the statutory requirements for an energy property as defined by section 48” of the IRC, the rule says. In addition, the IRS says in developing the eligibility requirement, the Department of the Treasury consulted with the Department of Energy and concluded that for a property “to be eligible as (an) energy property (under section 48), the property must also meet any performance and quality standards that have been prescribed by” those departments.

The final rule says the part of section 48 focused on GHPs says “energy property includes equipment that uses the ground or ground water as a thermal energy source to heat a structure or as a thermal energy sink to cool a structure (geothermal heat pump or GHP property).”

However, the rule says an “energy property does not include property that is part of a qualified facility the production from which is allowed a renewable electricity production credit determined under section 45 (of the IRC) for the taxable year or any prior taxable year.”

Taxpayers have claimed the regulations could cause significant potential harm to development of geothermal projects, and have requested revisions to the definition of GHP property to include recovered heat as a thermal energy source, including that GHP property that uses a ground heat exchanger as a source or sink can be designed to operate in a heat recovery mode, simply recycling heat around a building if the potential exists. However, the Treasury Department and the IRS declined to adopt those suggested revisions because they would conflict with the statutory definition of GHP property. 

Taxpayers have urged the Treasury Department and the IRS to “provide a method for split ownership of GHP property and geothermal energy property to qualify for the section 48 credit.” In support of that effort, taxpayers have cited correspondence from member of Congress “urging support for the geothermal industry and requesting guidance to allow for viable third-party ownership business models, including clarifying that GHP property and geothermal energy property are exempt from the ‘limited use property’ doctrine.” 

The correspondence from members of Congress that is cited by taxpayers and listed in the rule were efforts by Sen. Michael Bennet (D-Calif.) and Rep. Sean Caston (D-Ill.), who both circulated letters among their colleagues asking for their support in requesting the Treasury Department revise the rule preventing owners of different components of a GHP system from claiming a tax credit. Bennett enlisted 13 senators to add their names to the letter, while Caston enlisted 11 members of the House of Representatives to sign the letter. 

Jacob Vurpillat, senior advisor for Caston, said the final rule defining energy properties is being reviewed by the lawmaker, but it seems as “the IRS is dealing with a slightly different issue in this rule than” the issue raised in Caston’s letter. Furthermore, Vurpillat added the Treasury Department is issuing “a lot of different guidance on energy tax credits right now and we expect more guidance on our issue.” 

In addition, a staffer for Bennett said the senator is reviewing the latest rule.

Click here to read the IRS final rule: Definition of Energy Property and Rules Applicable to the Energy Credit.