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IEA Greenhouse Gas R&D Programme

New beginnings for carbon capture with Section 45Q tax credits in the United States

The passing of the Inflation Reduction Act (IRA) of 2022, HR 5376, represents a new beginning for the role of carbon capture, utilization, and storage (CCUS) technologies for industrial decarbonization to combat climate change. While the IRA promotes a technology-neutral approach, where many technologies qualify by meeting emissions goals, it provides compelling tax incentives for carbon capture through investment and wider application with market-driven mechanisms. The modifications to Section 45Q tax credits represent one of the most impactful aspects of the IRA related to greenhouse gas (GHG) emission reductions. These provisions include (1) an increase in tax credit value from $50 to $85 per tonne for geologic sequestration; (2) an increase in tax credit value from $35 to $60 for CO2-EOR, (3) a tax credit value for direct air capture (DAC) at $180 per tonne for geologic sequestration and $130 per tonne for CO2 utilization, including CO2-EOR; (4) a decrease in emissions eligibility thresholds of qualifying projects, and (5) a provision for direct pay while retaining tax credit transferability for liquidity options. This is the third iteration of enhancements of the tax credits from the original Energy Improvement and Extension Act of 2008 (amended by the American Recovery and Reinvestment Act of 2009), and further modified by the Bipartisan Budget Act of 2018. While the tax credits have been available since 2008, the value, threshold limitations, and the required Commence Construction Date (CCD) limited commercial deployment. The provisions set forth in the IRA finally provide the needed level of incentives and an actionable time frame for widespread deployment based on market-driven mechanisms in an ever-changing geopolitical landscape.

From an industry perspective, one of the most significant changes included in the IRA is the extension of the CCD to January 1, 2033. Prior to this, "construction" of a CO2 capture facility had to begin by January 1, 2026, by either beginning physical work of a significant nature or by incurring 5% or more of the total cost of the qualified facility. Carbon capture projects require detailed engineering studies and use equipment with long lead times for fabrication. These projects also entail considerable time for permitting, acquisition of surface property and pore space, and construction of pipelines and sequestration wells. Except for a few early-mover projects, in part funded by the U.S. Department of Energy (DOE), the tax credit did not make sense given the fast-approaching CCD. The CCD also did not provide the opportunity to strategically incentivize widespread future decarbonization through next-of-a-kind (NOAK) project development within one corporate entity or business sector. A one-off project opportunity does not allow for steady progression down a learning curve that reduces both risk and costs. This results in other, possibly less efficient or more costly technologies or processes being required for future deep carbon reductions to take place outside of carbon capture.

The $85 per tonne tax value provides a relevant incentive to justify capital outlays for hard-to-abate industrial processes, such as petrochemicals, cement, steel, fossil-fueled power, and refineries. In the past, natural gas upgrading, ethanol, and ammonia facilities were the primary beneficiaries based on low capture costs (dehydration and compression) with the original credit values. With respect to DAC, the new credit valued at $180 per tonne encourages scale-up of early-stage technologies and creates an economic structure to allow commercial-scale DAC to be a part of a net zero decarbonization effort. The lower annual capacity thresholds broaden the universe of projects that can benefit from 45Q tax credits, potentially expanding the adoption of carbon capture technologies. Direct pay, or the ability of the applicable taxpayer to claim the value of the 45Q tax credit as a tax refund, as if it were an overpayment of taxes, supports capital investment to promote project development that has a federal tax exemption or does not have a current tax appetite. This will allow project developers to avoid the burdensome (and often costly) process of raising tax equity to monetize the traditional tax credits generated through 45Q. Direct pay will, theoretically, allow for project developers and sponsors to reap more of the benefits of the 45Q tax credit instead of having to share or transfer those benefits to financial institutions with tax appetites. Under the provisions in the IRA, it would also be possible for the eligible entity, in the alternative, to transfer the credit to unrelated entities in a non-taxable cash sale, which is another route that could simplify and reduce the costs associated with project development.

Coupled with reliable technology options and a permitting framework, the IRA provides the financial foundation for carbon capture to realize large-volume penetration into a wide range of industrial processes across the United States. All this comes on the heels of unprecedented funding in the range of 12.1B for carbon capture in the Bipartisan Infrastructure Law. The next 5 to 10 years will be an exciting opportunity for commercial deployment of these technologies.

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