On August 16, 2022, President Joe Biden signed the Inflation Reduction Act (IRA) into law. The 755-page legislation touches on a variety of issues, including provisions relating to climate change mitigation, clean energy, and energy innovation.
The federal legislation incentivizes multiple sources of clean energy, including energy storage, nuclear power, clean energy vehicles, hydrogen, carbon capture and biogas, so long as they are carbon neutral. Instead of opting for or preferring one solution for climate mitigation over others, this ‘source agnostic’ approach reduces the risks associated with picking technology winners. It focuses on reductions in GHG emissions linked to energy production.
The IRA extends and creates Investment Tax Credits (ITCs) and Production Tax Credits (PTCs) for clean energy generation including hydrogen, and gives the producers the choice to opt for either ITC or PTC, according to what works best for them. Most of the tax credits available provide for a base tax credit, which has the potential to be multiplied by five where the taxpayer complies with the prevailing wage and apprenticeship requirements provided under the Act.
A significant piece of the legislation gives taxpayers the option of direct pay (subject to certain conditions) and/or transferability of tax credits through cash sales. These options eliminate the need to enter into complex tax equity financing arrangements, such as partnership flip agreements or inverted leases. Such agreements/leases required that project developers had to seek out a handful of banks or insurance companies with a corresponding federal tax liability to offset such tax credits.
The IRA’s impact on the production of clean hydrogen is perhaps the most important new area of investment incentivization. It provides for a base credit of $0.60 per kilogram of hydrogen produced, so long as the carbon intensity is within the range of 0 – 0.45 kilogram of CO2 equivalent (CO2e) per kilogram of hydrogen (H2). Where developers comply with prevailing wages and apprenticeship requirements, they are eligible for a tax credit of $3/kg of hydrogen. The Act, however, does NOT incentivize hydrogen production with a carbon intensity exceeding 4kg of CO2e/kg of H2. It mandates a well-to-gate approach to measure the lifecycle emissions.
This means developers will likely need to account for downstream emissions after the point of sale. Alternatively, instead of a PTC, the taxpayer may opt for an ITC. The base ITC is 6%, subject to an increase to 30% if prevailing wages and apprenticeship requirements are met. And, whilst these hydrogen tax credits can be claimed in addition to credits for renewable production for green hydrogen and hydrogen storage infrastructure, they cannot be stacked with the tax credits available for carbon capture, utilization and sequestration (CCUS).
Also of note, the IRA makes strides in curbing US methane emissions through the Methane Emissions Reduction Program. It provides $1.5 billion to the Environmental Protection Agency (EPA) to support monitoring and methane reduction efforts in upstream oil and gas activities and imposes a penalty on methane emissions in excess of 25,000 metric tons of CO2e gas. The penalty kicks in in 2024 at $900/ton and incrementally increases to $1,200/ton in 2025 and $1,600/ton in 2026.
These tax incentives will likely make the US one of the cheapest regions in the world for clean hydrogen production. A $3/kg payment, or credit, by the US government could drive the effective cost of producing green hydrogen to $0.73 to $3.5 / kg of H2, based on current Platts price estimates for unsubsidized production. For perspective, just last June, the US launched its initiative to reduce the price of hydrogen to $1 / kg by 2030.