ESG (environmental, social, and governance) considerations are changing how tax impacts the business decision-making process. Given recent legislative changes and proposals, investor and stakeholder pressures, and the changing geopolitical economy, the “usual way” of doing business no longer serves to achieve the goals of companies and their stakeholders. Instead, through understanding and implementing available tax incentives, companies can take advantage of potential opportunities to create capital and economic growth. And in this new approach, technology can play an increasingly vital role.
Understanding the overall corporate strategy and the base case for transformation first requires understanding the expanding tax footprint. For example, tax is an important pillar of sustainable finance, including profit allocation across the value chain, credits and incentives. Tax also plays into the strategy for net-zero transformation and drives valuation in deals. The optics tax presents in ESG transformation, coupled with increased transparency and due diligence from relevant stakeholders, requires close alignment between the tax suite and the C-suite.
The Inflation Reduction Act of 2022 (IRA) represents the largest investment in clean energy in US history, including over $370 billion in spending provisions and tax incentives related to climate change. These provisions are intended to spur investment in cleaner energy not only by traditional energy companies, but also by companies in the manufacturing, construction, transportation, aviation and financial services sectors.
For example, the IRA extends and expands many tax credits and creates over a dozen new credits to encourage lower-carbon investments in power generation, transportation, industrial production and real estate. Many credits have “bonus” provisions that increase the amount of the credit by as much as five times if the project meets certain job quality and opportunity standards. Direct payment and transferability of tax credits can provide alternative financing structures for these investments and allow taxpayers with low taxable income or net losses as well as tax-exempt entities to realize the benefits of these provisions.
The IRA significantly expands — in some cases more than triples — existing tax credits for carbon capture, and offers new production tax credits for hydrogen and zero-emission nuclear power that are expected to significantly lower the cost of new, renewable-energy-related technology.
The ESG tax credits fall into four broad categories, roughly aligned with the four largest sources of greenhouse gas (GHG) by sector in the American economy:
The optimal mix of credits for any particular business will depend on its business sector, GHG emissions footprint and ESG goals. Companies should model potentially applicable credits with the increased costs that some may require for compliance, as well as how certain credits may interact with one another. Taxpayers in the semiconductor manufacturing sector may be able to combine one or more energy credits with the new credit added by the CHIPS Act.
The IRA also provides more flexible ways to monetize credits that are expected to have a significant impact on the tax equity financing landscape. Companies that previously were not in a favorable position to pursue ESG goals now may be able to do so without many of the previous limitations. Tax credit transferability opens up a new marketplace that can create more opportunities to attract capital to finance ESG transformation.
The new options for monetizing the tax credits can help companies unlock the value of these incentives regardless of their current tax position and should generate new financing structures and opportunities to support these investments. They also may create opportunities for companies to support ESG-related investments by purchasing some combination of tax credits and output or renewable energy certificates associated with the project.
Historically, companies may have considered renewable energy incentives only in the context of their energy or environmental strategies. But the operative provisions of the IRA ESG tax incentives are broader than simple “energy” or “green” incentives. While the “E” in ESG grabs much of the spotlight, ESG is three letters, and tax plays a role in every one of them.
The “S” issues the law addresses mean that it doesn’t just matter what companies do or what technology they employ, but also where they do it and how they do it. For example, the IRA offers significantly enhanced credits if certain requirements related to location, wage and content are met. The IRA also implicates “G” issues, in that taxpayers will have to establish both to the IRS and to stakeholders how they have met the wage standards, carbon intensity reduction requirements and other benchmarks.
With the “S” and “G” elements of ESG increasingly focused on tax reporting, there seem to be concerted moves to improve transparency in reporting on tax. The momentum behind companies’ reporting on their environmental performance is growing stronger. There is increasing pressure on businesses — from governments, investors, regulators, the media, consumers and the public — to disclose more about the taxes they pay. With the promulgation of standards such as GRI 207 and Total Tax Contributions, companies are disclosing tax-related information as part of their annual reporting process. This push for transparency also is pronounced outside the United States in jurisdictions such as the European Union and Australia.
In March 2022 the SEC proposed new disclosure rules that would subject major US companies to mandatory reporting on climate change. SEC Chair Gary Gensler, while recently testifying before Congress, in response to a question from Senator Chris Van Hollen (D-MD) endorsed the Financial Accounting Standards Board’s proposal for companies to identify, in their financial statement footnotes, the taxes they have paid based on jurisdiction, such as country or state. Senator Van Hollen has been a major proponent of the proposed Disclosure of Tax Havens and Offshoring Act, which would require the SEC to impose public country-by-country reporting requirements.
In summary, all three prongs of ESG will continue to play a critical role in business transformation and decision-making. Tax is no longer an optional consideration or afterthought — it must have a seat at the table from the beginning.
The tax department needs to connect with the broader business in planning for new investments that would advance the company’s ESG goals. Things to consider include:
Start by understanding what’s available and how those opportunities can help defray the costs of ESG investments and the clean energy transition. Coordinating with stakeholders in the capex approval process may help identify ESG-related investments that make more sense on an after-tax basis or for which the location choice might change in light of incentives. Modeling can help you analyze which option makes the most sense or decide how to monetize the credits earned.
Recent EU actions such as the Corporate Sustainability Reporting Directive may soon expose US and other non-EU multinational corporations to a novel type of tax reporting. Businesses will need to set up new processes and procedures to meet these challenges, say Will Morris, Andy Wiggins, and Matt Timmons of PwC.
Anne Andrews, a Partner in PwC’s Specialized Tax Services Practice in San Jose, discusses how companies are moving forward with implementing the energy incentives in the recently-enacted Inflation Reduction Act, questions she’s receiving, where companies need to focus strategically, and collaborative actions companies...
In today's special episode, we take a look at the ESG initiatives from the Inflation Reduction Act to discuss the varied implications for your business.
