The NY Times has a story on how the IRS has been slow in issuing guidance for the 2018 expansion of the carbon sequestration credit. Reading the story sparked a few reactions, none of them directly relevant to SALT issues, though.
I must confess this credit had largely escaped my attention. It was originally enacted in the Bush administration as part of 2008 stimulus tax cut and expanded in the Obama stimulus. The 2018 Congress materially expanded it by removing the dollar cap, which had hobbled its use. My excuse for not noticing the 2018 change: It was enacted when I was preoccupied with the TCJA and how it affected Minnesota’s income and corporate taxes. As a result, when the Bipartisan Budget Act of 2018 (the legislation containing expansion of the credit) was enacted in February 2018, I focused exclusively on its changes affecting Minnesota’s tax calculations, mainly changes to AGI or FTI. Changes to federal credits like this one went right by me.
The Times story recounts how the IRS has been slow in putting out guidance on the credit (two years have passed since BBA was enacted and no proposed regs issued), particularly how businesses making the qualifying investments can shift some or all of the tax benefits to others (obviously in return for money) when they don’t have sufficient tax to use all of the credits themselves. Those arrangements involve massive technical complexities, based on my knowledge of the similar issues with other federal credits (e.g., the low-income housing credit and the historic structure rehabilitation credit to name two). Given the demands on the IRS to put out guidance on the myriad of complex TCJA provisions, the slowness seems entirely predictable to me.
In any case, the story stimulated these random reactions:
Hypocrisy or delusion by members of Congress. My instinctive reaction is that Republicans in Congress who are complaining about the IRS’s slowness (the article quotes Wyoming Senator John Barrasso, a Republican) are rank hypocrites. I don’t know the Senator or his position on IRS funding, so this might be unfair. But since 2010 the Republicans in Congress have consistently been cutting or inadequately funding the IRS. After enacting the TCJA, they gave the IRS a small increase in funding, but real funding is still down by a lot (20%) as I pointed out here. Delays of this sort are exactly what they should expect. Before criticizing, they should consider their own responsibility. It’s not like President Trump is any better (see here), but I’m sure he prefers hobbling the IRS given past statements on his attitude regarding paying taxes.
Aversion to refundable credits. Congress and many states appear to have an aversion to refundable business tax credits. Much of the complexity that resulted in the delay in IRS guidance, according to the Times, is attributable to the need for regulations specifying under what terms third party investors (who probably must be cast as equity owners to) qualify for the credit. That complexity could be minimized, if not wholly eliminated, by simply making the credit refundable and paying the amount that exceeds tax to the owner.
I’m not sure what explains that aversion. One theory is that Congress is still smarting from the refundable safe harbor leasing provisions in the very first Reagan tax cut (ERTA 1981). That provision generated immense adverse publicity and caused Congress to quickly repeal the provision a year later in TEFRA. Maybe it was a lesson learned, rather than an irrational aversion to bad political optics. If so, I don’t know what the lesson was. I still think I was correct in advising Minnesota legislators to make a variety of business credits refundable, rather than to require (or allow) elaborate schemes involving “partners” (who are really just disguised passive investors) to lay off the benefit of credits to third parties. The latter approach imposes high transaction costs (money for investment bankers and corporate lawyers) with little difference in results, as far as I can tell. Put all of the money in the target’s pocket who is engaging in the desired behavior, rather than diverting a healthy amount to bankers’, lawyers’, and consultants’ pockets. In any case, the feds and most states almost never provide for refundable business credits, but rather require complex financial and legal arrangements to transfer the benefits of credits or deductions to third parties. Go figure.
As an aside, there may be a legitimate policy question whether to allow a credit or other incentive to nontaxpaying entities at all. If the government simply wants the activity to occur (seems like the case here) that’s not an issue. But it might be if the thought is that only proven successful firms (i.e., those that regularly have profits and pay tax) are reliable enough to provide the desired benefits. Another instance is if the credit generating activity is so ordinary or common that allowing nontaxpayers to get it will create compliance and tax administration issues. The latter was the case with Minnesota’s refundable R&D credit. I see none of those issues if the goal is carbon capture, certified rehabilitation of historic structures, or construction of qualified low-income housing. Who cares if the claimant has tax liability? The goal is the output.
Climate change: asymmetry and more hypocrisy. Stripped to its essentials, the federal government is buying carbon capture; that is, it is paying (via a tax credit) manufacturers a fixed dollar amount for each ton of carbon they sequester. The justification for this must be to minimize climate change and it was passed by a Republican Congress! (Caveat: The act is called the “bipartisan” budget act. Even though the GOP controlled both houses of Congress in 2018, the Senate filibuster required compromising with the Democrats to help pass this. So, the Democrats may have insisted on including the credit changes in the bill. The original credit was enacted by a Democratic Congress. But the senator quoted in the article dissing the IRS is a Republican. Of course, a lefty NY Times reporter may be at fault in picking his comment or seeking it out, I suppose, could be the defense.)
In effect, this is a negative carbon tax (or it may be better to call it a carbon reduction subsidy, I suppose, but that’s not as catchy). If this makes policy sense (and it very well might, in my opinion as someone who feels the country needs to address climate change now in a big way), its enactment makes the case for serious consideration of a carbon tax. What is the difference between the government paying to sequester carbon or charging people for emitting carbon? None as far as I can tell. (Disclosure: I’m a rank amateur when it comes to this stuff. I do know that if we want to get to zero carbon emissions, sequestration is required to accommodate making concrete, steel, etc. which produce carbon emissions.) The rational approach is to see which is cheaper per ton of carbon and do that first. I assume that it is much easier/cheaper to reduce carbon emissions than to sequester them. But then you would not look like you were cutting taxes in doing it, even if you recycled every dollar of the carbon tax as an offsetting tax cut. It shows the asymmetry in preferring tax over direct expenditures, particularly by Republicans. One more example of why we’re rapidly devolving into a world of more and more tax expenditures and suboptimal policy, in my opinion.
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