August 24, 2023 Canada | Legislative update for the CCUS investment tax credit
On 4 August 2023, the Department of Finance released for public comment updated draft income tax legislative proposals relating to the new investment tax credit (ITC) for carbon capture, utilization and storage (CCUS). This Alert highlights specific CCUS ITC updates contained in the latest round of legislative proposals and provides a summary of the related proposed labor requirements. Draft legislative proposals for the new clean technology ITC, as well as new labor requirements relating to both the CCUS ITC and the clean technology ITC, were also released on 4 August 2023. The draft legislative proposals relating to the clean technology ITC are discussed in Global Tax Alert 2023-1431, Canada | Legislative details released for the new clean technology investment tax credit, 21 August 2023. Interested parties are invited to provide comments on the draft legislative proposals by 8 September 2023. The CCUS ITC was first announced in the 2021 federal budget and subsequently updated in both the 2022 and 2023 federal budgets. The 4 August 2023 draft legislative proposals for the CCUS ITC are generally consistent with previous announcements and most notably incorporate the latest changes proposed in the 2023 federal budget. The initial draft proposals were outlined in Global Tax Alert 2022-5497, Canada | Status of proposed federal investment tax credit for carbon capture, utilization and storage, 19 May 2022, with subsequent proposals outlined in Global Tax Alert 2022-5980, Canada | Update on proposed federal investment tax credit for carbon capture, utilization and storage, and Global Tax Alert 2023-0658, Canada Federal budget 2023/24: A made-in-Canada plan, 4 April 2023. Background The CCUS ITC (proposed section 127.44 and Part XII.7 of the Income Tax Act (the Act)) will be refundable and available to businesses that incur qualified CCUS expenditures after 2021 and before 2041. Qualified CCUS expenditures will include the cost of acquiring eligible equipment used in qualified CCUS projects. Eligible equipment, as described in our previous Tax Alerts noted above, will include equipment that is situated in Canada and used solely to capture, transport, store or use carbon dioxide (CO2) as part of a qualified CCUS project. This equipment will be included in new capital cost allowance (CCA) Classes 57 and 58, which will have 8% and 20% declining-balance-basis CCA rates, respectively, and will be eligible for enhanced first-year depreciation under the accelerated investment incentive. For qualified CCUS expenditures incurred after 2021 and before 2031, credit rates are 60% for qualified carbon capture expenditures used to capture carbon directly from ambient air, 50% for other qualified carbon capture expenditures and 37.5% for qualified carbon transportation, storage or use expenditures. These credit rates are reduced by half for eligible expenses incurred after 2030 and before 2041. Also, the credit rates are reduced by 10 percentage points if certain proposed labor conditions are not met (see "Labor requirements," below). The tax credit may be claimed for the taxation year in which qualified CCUS expenditures are incurred, regardless of when the related equipment becomes available for use. The extent to which the tax credit will be available also depends on the projected eligible use percentage of the CO2 being captured. Proposed Part XII.7 recovery taxes may also be imposed to recoup any excess tax credits claimed where the projected eligible use percentage is not met at the end of each of the four project periods. 2023 federal budget changes The legislative proposals incorporate various changes that were announced in the 2023 federal budget, including the separation of the credit into a cumulative CCUS development tax credit (for qualified CCUS expenditures incurred before the first day of commercial operations of a CCUS project) and a CCUS refurbishment tax credit (for qualified CCUS expenditures incurred during the total CCUS project review period). Other changes announced in the 2023 federal budget and included in the 4 August 2023 legislative proposals include:
As described below, rules related to knowledge sharing and climate-risk disclosure are also included in the draft legislative proposals (with some legislative modifications since their initial release on 28 March 2023). Proposed eligible-use ratio As noted above, the extent to which the CCUS tax credit may be claimed depends on the projected eligible use percentage of the CO2 being captured. The eligible-use ratio refers to the quantity of captured carbon that the CCUS project is expected to support for storage or use in an eligible use divided by the total quantity of captured carbon expected for both eligible and ineligible use. For these purposes, eligible use is defined as either:
Under the updated proposals, a "qualified concrete storage process" means a process that has been evaluated against the ISO 14034:2016 standard, Environmental management — Environmental technology verification, to confirm that at least 60% of the captured carbon injected into concrete is expected to be mineralized and permanently stored. Validation in meeting these requirements must be issued by an accredited verification body that meets the requirements of a third-party inspection body as described by ISO/IEC 17020:2012. Changes in project or eligible use The requirement to file a revised project plan in certain circumstances has been modified to specify that the provision applies at any time before the first day of commercial operations of a qualified CCUS project, as well as to provide for a 90-day-period filing deadline. Specifically, a taxpayer must file a revised project plan with the Minister of Natural Resources within 90 days of either:
Failure to file a revised project plan will result in the taxpayer's projected eligible-use percentage being deemed nil for the total CCUS project review period, until the revised project plan is filed. Reduction to qualified CCUS expenditures As indicated in Global Tax Alert 2022-5980 (referenced above), qualified CCUS expenditures must be reduced for certain amounts. Under the updated proposals, qualified CCUS expenditures will also be reduced for:
Subsection 211.92(11) election — CCUS project sale If a taxpayer (the vendor) disposes of all, or substantially all, of its property that is part of a qualified CCUS project to another taxable Canadian corporation (the purchaser), the taxpayer and the purchaser can jointly elect under proposed subsection 211.92(11) to avoid the recapture of CCUS ITCs at the time of the disposition and instead have the purchaser assume the relevant tax history of the vendor to ensure the appropriate future application of Part XII.7 taxes. If the election is filed, the purchaser is deemed to have made the qualifying expenditures of the vendor (at the times incurred by the vendor) and to have claimed the ITCs that were deducted by the vendor against its taxes payable in respect of the CCUS project. The purchaser is also deemed to have filed any project plans that were prepared and filed by the vendor and is liable for amounts in respect of the CCUS project properties on a go-forward basis. Repayment of assistance The updated proposals clarify that if assistance was repaid or is no longer receivable and was applied to reduce the capital cost of a property, the amount paid or no longer receivable shall be added to the capital cost of the taxpayer for the purpose of determining the taxpayer's qualified CCUS expenditure for the particular year. Revocation of designation Under the updated proposals, British Columbia has been added as a designated jurisdiction, along with the provinces of Alberta and Saskatchewan. As well, the definition of a designated jurisdiction includes any other jurisdiction within Canada or the United States that has been designated by the Minister of the Environment under proposed subsection 127.44(13); this essentially facilitates the designation of additional jurisdictions. However, under proposed subsection 127.44(14), if one of these jurisdictions makes significant changes to their environmental laws or enforcement governing the permanent storage of captured carbon, the Minister of the Environment can revoke the designation. A minimum of 30 days' notice will be given before such a revocation comes into effect. Knowledge-sharing report As announced in the 2023 federal budget, for projects with qualified CCUS expenditures of CA$250 million or more, a construction and completion knowledge-sharing report and annual operations knowledge-sharing reports must be submitted to the Minister of Natural Resources. The reports must contain information described in CCUS-ITC Technical Guidance Document, which will be published by the Minister of Natural Resources and amended from time to time. As of the time of writing, a final version of this document has not been released by the Minister of Natural Resources. Construction and completion knowledge-sharing reports are due the last day of the sixth month beginning after the first day of commercial operations and must cover the period that begins on the day the first qualified CCUS expenditure is incurred for the qualified CCUS project to first day of commercial operations. The first annual operations knowledge-sharing report is due as follows:
All subsequent annual operations reports for the next four calendar years must be submitted within six months (i.e., by 30 June) of the end of each of those calendar years. Taxpayers that fail to submit construction and completion and annual operations knowledge-sharing reports are subject to a CA$2 million penalty payable the day after the reporting-due day indicated above. Knowledge-sharing taxpayers (other than certain exempt corporations) must also submit a public annual climate risk disclosure report that describes climate-related risks and opportunities for the corporation and explains how the corporation's governance, strategies, policies and practices contribute to Canada's Paris Agreement commitments and net-zero emissions goal by 2050. This report is due by the day that is nine months after the reporting taxation year ends. Penalties for not submitting a climate risk disclosure report for a given reporting taxation year are the lesser of:
Labor requirements The draft legislation also proposes that certain labor requirements be achieved to fully maximize the incentive available under the CCUS ITC. If the labor requirements are not met, the maximum credit rate is reduced by 10 percentage points. To meet the labor requirements, the ITC claimant must elect in prescribed form and manner for each installation taxation year (i.e., a taxation year during which preparation or installation of the CCUS property occurs). The reduced rates of ITC will automatically apply if the taxpayer has not elected in the prescribed manner to meet the prevailing wage and apprenticeship requirements for an installation taxation year. Prevailing wage requirements The taxpayer must meet the following labor requirements to qualify for the full incentive:
For these purposes, a covered worker means an individual:
Apprenticeship requirements In addition to the prevailing wage requirements set out above, the ITC claimant must make reasonable efforts to ensure that Red Seal registered apprentices work at least 10% of the overall Red Seal registered trades time on the installation of the CCUS property. If a labor law or other agreement restricts the use of apprentices, then the ITC claimant must make every effort to ensure the highest percentage of labor hours is achieved. In addition, the ITC claimant must attest in prescribed form and manner that it has met the apprenticeship requirements in respect of covered workers at the designated work site. Note, Red Seal trade is a designation managed by the Canadian Council of Directors of Apprenticeship under the Red Seal Program. Penalties for non-compliance with labor requirements The proposed legislation includes a penalty in the form of an additional tax amount payable when the taxpayer has claimed the ITC based on electing to satisfy the labor conditions but fails to meet the requirements. The penalty is calculated as CA$20 for every day a covered person was not paid the prevailing wage rate during the installation year and, with respect to the apprenticeship requirements, CA$100 for every hour the total apprenticeship time falls below the specified hours. The amounts used to calculate the penalty will be indexed to inflation after 2023. Gross negligence If the incentive claimant has claimed the regular ITC rate based on meeting the labor requirements and it is later determined that the claimant knowingly (or in circumstances amounting to gross negligence) did not satisfy the conditions, the taxpayer must pay back the portion of the incentive they were not eligible for as well as a penalty equal to half of that ineligible amount. This does not apply in respect of a CCUS refurbishment tax credit as described in 127.44(5). Corrective measure If the ITC claimant receives a notification from the CRA specifying that it did not meet the prevailing wage requirement set out above, the claimant may provide a "top-up" amount, plus interest, to each covered worker for the shortfall in pay to remain in compliance with the requirements. The claimant must pay the top-up amount (including interest) within one year after receipt of the notification (unless the CRA considers a longer period to be acceptable in the circumstances). If the top-up amount is not paid to any particular covered worker, a penalty equal to 120% of the top-up amount will apply. Conclusion The CCUS ITC, complemented by ITCs for clean technology, clean hydrogen, clean electricity and clean technology manufacturing, is critical to Canada's achieving its emissions reduction targets. Guidance on the CCUS project pre-approval process from Natural Resources Canada is still forthcoming and will clarify the upfront requirements for accessing this incentive. ——————————————— For additional information with respect to this Alert, please contact the following: Ernst & Young LLP (Canada), Calgary
Ernst & Young LLP (Canada), Toronto
Ernst & Young LLP (Canada), British Columbia
Ernst & Young LLP (Canada), Quebec and Atlantic Canada
Published by NTD’s Tax Technical Knowledge Services group; Carolyn Wright, legal editor | ||||
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