In Notice 2025-42 (Notice), released on August 15, 2025, the IRS updated the rule for determining when wind and solar projects have begun construction for purposes of qualifying for tax credits under IRC Sections 45Y (clean energy production credit) and 48E (clean electricity investment credit). The "5% safe harbor" test is generally eliminated, leaving the "physical work" test as the only way to establish that the project has begun construction.

The Notice is effective for applicable wind and solar projects that have not begun construction before September 2, 2025.

Background

The "One Big Beautiful Bill Act" (P.L. No. 119-21, OBBBA) eliminated the IRC Section 45Y and 48E credits for wind and solar projects placed in service after December 31, 2027, except for projects for which construction begins within 12 months of July 4, 2025 (see Tax Alert 2025-1434).

Following the legislation's enactment, President Trump issued an Executive Order (Order) on July 7, 2025, in which he directed the Department of Treasury, within 45 days of the OBBBA's enactment, to issue guidance to assure policies around the "beginning of construction" are not circumvented and to restrict the use of broad safe harbors unless a "substantial portion of a subject facility has been built." (The Order also asked for guidance implementing the OBBBA's enhanced foreign-entity-of-concern (FEOC) restrictions, which the Notice said will be issued separately).

Previously, to establish the beginning of construction, taxpayers could demonstrate that construction has begun by either: (1) starting "physical work of a significant nature" (the physical work test) or (2) paying or incurring 5% or more of the total cost of the facility (the 5% safe harbor test). In addition, taxpayers had to demonstrate either continuous construction or continuous efforts (the continuity requirement).

Physical work test

The Notice generally eliminates the 5% safe harbor test for making the beginning-of-construction determination for wind and solar facilities. Instead, the Notice states that the sole method of determining beginning of construction is the physical work test, which requires the start of physical work of a significant nature and requires a continuous program of construction. Whether physical work of a significant nature has begun before July 5, 2026, will depend on the relevant facts and circumstances.

According to the Notice, the physical work test is evaluated by the nature of the work performed, not the amount or cost. Work that is performed off-site or on-site, either by the taxpayer or by another person under a binding written contract, may be taken into account in making this determination.

Off-site work: Off-site physical work of a significant nature may include "the manufacture of components, mounting equipment, support structures such as racks and rails, inverters, and transformers (used in electrical generation that step up the voltage to less than 69 kilovolts) and other power conditioning equipment."

On-site work: The Notice contains a non-exclusive list of examples of what constitutes on-site work for wind and solar facilities. For example, for a wind facility, on-site physical work of a significant nature "begins with the beginning of the excavation for the foundation, the setting of anchor bolts into the ground, or the pouring of the concrete pads of the foundation." Construction could also begin when components are manufactured off-site, but only if the work is done under a written binding contract and the components are not in (or not normally held in) the manufacturer's inventory.

Preliminary activities: The Notice specifies that physical work of a significant nature does not include preliminary activities, even if their cost is included in the facility's depreciable basis. Preliminary activities generally include planning, securing financing, researching, and obtaining permits and licenses, among other examples.

Continuous program of construction

Taxpayers must maintain a continuous program of construction to satisfy the physical work test for wind and solar facilities. This means continuing physical work of a significant nature, either under the continuity safe harbor or the relevant facts and circumstances.

The Notice contains a non-exclusive list of construction disruptions that would not result in a taxpayer failing to satisfy the continuity requirements, such as delays due to severe weather conditions, obtaining permits or licenses, the manufacture of custom components and/or financing. Whether an excusable disruption has occurred is determined in the calendar during which the facility is placed in service. For a project comprised of multiple facilities, an excusable disruption is determined in the calendar year during which the last of the facilities is placed in service.

The continuity safe harbor was effectively retained and applies if the facility is placed in service no more than four calendar years after its construction began (the excusable-construction-disruption rules do not apply to the safe harbor). This requirement generally prevents the potential unintended acceleration of tax credit eligibility and helps ensure that each eligible project makes ongoing, continuous progress.

Low output solar facility

The 5% safe harbor can only be used for low output solar facilities that begin construction before July 5, 2026. The Notice defines a low output solar facility as having a maximum net output of not greater than 1.5 megawatt (MW) (as measured in alternating current). The Notice details how to determine which property is included in the facility and how to measure the output. For purposes of the 1.5MW maximum, it measures the nameplate capacity of two or more applicable solar facilities having integrated operations in the aggregate.

Other factors

The Notice also details how to evaluate the various factors that are included in making beginning-of-construction determinations, including whether the:

• Work is performed under contract
• Facility is qualified under IRC Sections 45Y or 48E
• Property is integral to the facility
• 80/20 rule for retrofitted facilities applies
• Facility was transferred after construction began

Implications

Developers with projects that have already met the 5% safe harbor, and those that chose to accelerate spending to meet the standard before the Notice was issued, will directly benefit from the effective date of September 2, 2025. For projects intending to utilize the physical work approach to meet the beginning- of-construction standard, the rules under this Notice are substantially unchanged from the previous requirements. Although this Notice retains a list of permissible delays similar to existing rules, the preservation of the four-year continuity safe harbor should be well received by developers.

To recap key dates, projects qualifying under the 5% safe harbor with a 2025 begun-construction date preceding September 2, 2025, will continue to have until December 31, 2029, to be placed in service. Likewise, projects with a 2026 begun-construction date occurring before July 5, 2026 (which will now be exclusively under the physical work method) will have until December 31, 2030, to be placed in service. Projects beginning construction after July 4, 2026, however, must be placed in service by December 31, 2027.