In The Public Eye: Navigating the Inflation Reduction Act (IRA) for the Power Industry

Intro (00:00):
Welcome to the Alliant in the Public Eye Podcast, a show dedicated to exploring risk management topics and challenges faced by today's public sector leaders. Here is your host, Carleen Patterson.

Aidan Heisey (00:17):
Welcome back everyone to another episode of In the Public Eye. I'm Aidan Heisey, I'm stepping in as today's host. I'm a property and casualty insurance producer for Alliant's Power Generation Group. I've been in the industry for about 13 years now, and the last six years I've focused exclusively on public and cooperative power. Today, we want to discuss a topic that really couldn't be more relevant for our public power partners, renewable generation expansion and the Inflation Reduction Act of 2022. To help, we've got a couple of very special guests joining us who are particularly informed on today's topic. We have Cindy Fee of Alliant, a colleague of mine, and Lisa Hough of Omaha Public Power District. Cindy, let's start with you. If you could tell us a little bit about yourself.

Cindy Fee (01:06):
Absolutely. Thank you so much for including me on this very relevant topic today. And for those of you who don't know me, my name is Cindy Fee. I'm the U.S. casually broking lead for Alliant Specialty Energy and Power. A little bit about my background, I'm a licensed attorney in California. I'm a former senior risk analyst at the Sacramento Municipal Utility District, and I've been dedicated to the power and utility space focusing on casualty for more than 10 years.

Aidan Heisey (01:32):
Great, thanks a lot, Cindy. And Lisa Hough of OPPD. Tell us a little bit about who you are, if you would.

Lisa Hough (01:39):
Thanks, Aiden. And as Cindy said, thank you for giving me this opportunity to talk to our fellow coworkers and fellow counterparts about this relative topic we're talking about today. My name is Lisa Hough and I've been with the District, or Omaha Public Power District, for the last 15 years. My background is I'm an attorney that has practiced insurance defense work as well as worked for State Farm and doing their complex claim handling for mediation arbitrations. That led me up to my current position where I'm a Director of Legal Operations here at the District, where I manage all the claims that come in the insurance portfolio, our real estate and property transactions, as well as our legal operations within the District.

Aidan Heisey (02:21):
All right, thank you for that Lisa. So, Lisa, I'll direct this one to you. You're adding renewable power to your portfolio and you have a decision to make. Are you going to own that new asset outright or purchase the renewable power via a power purchase agreement with a developer?

Lisa Hough (02:40):
That is an excellent question. Before this year or before the passing of the Inflation Reduction Act, I would've said as a public power utility, we can only participate in renewables through a purchase power agreement or a PPA. That's because, before the IRA, or the Inflation Reduction Act, we were unable to take advantage of certain types of tax credits. As you may be aware, public power utilities do not pay taxes, they pay in lieu of taxes. So, we had to utilize a purchase power agreement. But with the IRA now, there are certain tax credits we're allowed to take advantage of. So, you're going to balance those things initially, but you also need to look at your cost of capital. That's one of the bigger ones. We're going to be looking at whether or not you're going to finance that yourselves or transfer that over through a developer utilizing a PPA. You also need to look at your risk appetite when you're looking at these types of decisions. How much of the replacement cost value of the asset that you want to utilize, in say a natural catastrophic event, is the asset going to be abandoned? If you were owning that, would you abandon it as a public power or would you be able to repair it? And then the last piece is obviously offsetting your capital expenditures through these potential new tax credits.

One of the last things you also need to look at is how are you managing your overall portfolio of ownership and your ability to manage your insurance portfolio. Looking at, can I or do I have the internal resources to manage a EPC or engineering procuring and construction insurance policy? As well as do you have the capacity to manage either trying to find that natural catastrophic coverage in the market or managing a captive if you already have one? And does my company have the ability financially to maybe take some higher deductibles given within this renewable market? What the market or underwriters are telling us, we have to have four retentions. And maybe the last little piece, I'll turn over to Cindy. I know she wants to talk a little bit about more of the tradeoff and how that looks in your portfolio.

Cindy Fee (04:43):
Yeah, absolutely. Thanks, Lisa. And I think one of the things to take into consideration is ESG is a big deal, right? You hear that coming from state dictates, you hear that coming from different governing bodies across the United States. And so, one of the things that has also floated up to is to our insurance markets. And so, a lot of the insurance carriers out there, both on the property and on the liability side, have certain mandates and restrictions around types of generation that might be deemed to be maybe a little less friendly to the environment. So, for instance, any of the fossil fuel generation or maybe the coal generation. Well, I think one of the challenges that come into play, particularly in the public power space, is that budgets are limited and obviously the ratepayers of the public power folks are the ones taking on the onus of paying for these power plants. And some of these power plants have been in existence that might be less environmentally friendly, have been in existence for many, many years, and have been providing essential baseload power for the public power folks. Well, on the insurance side what's happening is that the insurance carriers are starting to take up on this idea of ESG as well. And when they're doing that, they're putting certain restrictions in on their capacity. So, not every carrier is doing this but there are a wide number of carriers that do. And when they're looking at it, what they're saying is, "Hey, we're going to restrict the amount of any particular utility generation or the capacity that we're willing to offer to any particular utility based on what their generation mix is.” And so, in the past, I think this has been a little bit of a struggle for the public power space. Again, depends on the carriers mixed on certain programs, but what we're seeing is that for public power, again as non-tax paying entities, the incentive has been it's easier to use a PPA. In a lot of cases, we're not trying to capture any sort of tax benefit.

Maybe we're not as sophisticated to be able to handle these contractors and go out there and get the insurance. And a lot of factors that Lisa has mentioned as well, there's this lack of tax incentive but then all of a sudden going out to the insurance markets, what you see come into play is you don't have the ability to bring owned renewables generation onto your portfolio to dilute the generation mix that you have coming from fossil fuel or less environmentally friendly type of capacity generation. So, most of those carriers out there that are putting these restrictions, it's usually based upon a mix of this. It's going to say either the revenue that's coming from your generation sources broken down by generation source, and then on the other hand, they're also looking at own generation. And so, we're not seeing that same credit applying to your generation mix if it's not owned. So, if you're contracting via a PPA, you're not getting that credit.

Aidan Heisey (07:25):
So, in other words, there are going to be insurers out there that have their own internal mandates for basically if you're going to do business with this insurer, you better have only X amount of fossil fuel generation, for example. And if you own renewables, it's going to count toward your total generation portfolio. If you're acquiring that power generation from a third party, a developer, say via a PPA, most carriers aren't going to give you that credit for that renewable generation. It won't count towards your own portfolio. Is that pretty much the size of it?

Cindy Fee (08:01):
Yeah, exactly. That was a great summary of it and what ends up happening, and of course, it's a virtue of supply and demand. So, when you have less carriers that are out there willing to provide you with capacity, it tends to drive up your pricing. And we know that pricing and budgets are a big concern for our public power folks in particular.

Aidan Heisey (08:20):
Great, thanks, Cindy. Lisa, what would you say as you've gone through this process internally, what would you say is the biggest incentive to own rather than going through a PPA?

Lisa Hough (08:35):
As we can balance the decision between ownership and using a purchase power agreement or PPA, some of the things that are weighing in the favor now of owning are a couple different things. One is these tax credits that are available since August of 2022 with the Inflation Reduction Act. The other one is control. You get to control how things are financed, you get to control what insurance and your risk appetite, how you can best offset that. But most of all, you control that relationship with your customers within your territory on looking at, we're going to be here, we're not going to ban this asset, we're going to repair it, we're going to work with you, we're thinking green. So, that public power model of putting your customer first really comes through in that decision-making we just discussed.

Cindy Fee (09:23):
Thanks, Lisa. I think what's really important to understand, I know we've talked kind of high-level here around the pros and cons, the reasons why we might use a PPA versus owned, and a little bit about the Inflation Reduction Act. But maybe we can go dig down a little bit deeper into the Inflation Reduction Act, what is the IRA and really truly what are those impacts on a public power entity?

Lisa Hough (09:47):
The IRA has been a game-changer for public power. As we just discussed previously, the only option for a public power utility to get into the renewable space at a good cost was to find that good developer and work through a PPA. In August of 2022, President Biden, his administration passed this IRA into law and basically what that did, it modified and broadened the provisions of the IRS code or the code that pertains to the development of clean energy and its facilities, including generation and storage. So, before that, we talked about we couldn't take advantage of that because we don't pay taxes. So, we always had to find that lower price with a developer. But since this IRA, now we have these tax credits that come to us and they are allowed through our tax-exempt entities to receive direct payment in place of a standard credit that you would see before the IRA passing. The benefits of this new legislation became effective on January 1st of 2023.

Cindy Fee (10:49):
So, I know you've mentioned credits. Can you give me or give all of us here today listening a little bit more of a deeper dive into what are the different types of credits and maybe what some of those factors are that impact them?

Lisa Hough (11:03):
Absolutely. As I said, the IRA kind of modifies and broadened those provisions that the IRS or the Internal Revenue Code allows when the development of energy-renewable facilities, whether it be in the generation or storage side. One, that there are two types of these credits that you're going to find in the IRS that's under this IRA code. And one is the investment tax credit or ITC, and this is a single payment option, and that's based on the certain percentage of renewable projects' total development cost. And the developer would receive, or the utilities, say as myself, the district would receive the payment based on the year that the renewable facility enters service. On the other side is a production tax credit and the name, or PTC, my name gives you the impression that it's based on the production. Once you're already in service, there is a credit that's going to be allowed and that's exactly what it is. It's a reoccurring annual credit based on the productiveness of a renewable asset measured in kilowatt-hours. So, unlike the investment tax credit, this credit, or this production tax credit, would pay out the developer or the utility such as the District over a period of 10 years. As you are going back and forth and deciding once you have ownership, you can decide then on which of these two tax credits you can take the best advantage of. Let’s talk later about how those are broken down a little bit further.

Aidan Heisey (12:28):
So, we've got the investment tax credit, which is the lump sum, all of it's determined at the beginning, and then you have your production tax credit and that sounds like something that's paid out over time. Can you tell us just a little bit about how you can go about increasing your credits?

Lisa Hough (12:45):
Absolutely. Regardless of if you choose the ITC, the investment tax credit, or the PTC, the production tax credit, there is a base credit that does not change. You're always going to get something. Then, there are four additional categories as your utility is looking at which one to go with that you'll want to consider. One of them is this domestic content, meaning anything you're utilizing at that site during the construction from panels to channels needs to be made in the good ole USA domestic content part of it. That'll give you a bonus of 10% on either ITC or PTC. You'll also need to look at another category there, a total of four, that was the first one. The second one is the wage and apprenticeship. That leads down to what type of labor you are utilizing in building and maintaining those structures and/or facilities. Both of the ITC and the PTC, if you utilize domestic content, you get that 10% bonus. If you now have the right labor resource, you can get a multiplier of up to a 30%.

You also talk about energy communities, a third category, and is this in an area where it might be potentially like an old coal plant and now you're going to utilize these spaces for solar or renewables, and utilizing those types of energy communities could also qualify the utility for additional 10%. And then lastly is how you finance that construction and building of those facilities. The most recent development though, I do want to throw a little thing that's changed, is that back in June this year there was some guidance that was provided and one of the things that came out is that domestic content bonus has become really huge. The most recent advice or guidelines that have been provided is that, if you don't meet the domestic content that might wipe you clear, you might get the base but you will not get anything else unless you have that domestic content. So, everything is developing but that was the most recent advisory that just came out on June 14 of this year, 2023.

Aidan Heisey (14:45):
I am going to come right out and say it, that sounds a lot like a whole lot of tax code, which is fair because that's exactly what it is. On the other hand, you got to get your arms around quite a bit to make sure that you're complying with the tax code and then, of course, you're going to claim credits based on what you intend to comply with, right? So, what happens if I claim all these credits, particularly on the ITC, but I would imagine it also applies to the PTC, I'm going to claim all these credits at the outset and then I end up not quite meeting my responsibilities that I've committed to per the complicated tax code. What happens? Am I at risk with those? Are those credits at risk?

Lisa Hough (15:31):
You are at risk. Cause once you've committed to a strategy, that's one of the things that this guidance that's been provided by the IRS is set out. You need to start from the beginning, going through all these evaluations and deciding which of these things you're going to go through. If you change strategies, then obviously you're at risk of potentially losing those adders, right? Each of those four types of credits can add up to 10 to 30% and if you change the style or change the mechanism of credit you're trying to seek, you will just automatically lose that and not regain it by going in between the two of them. Potentially again, and that June 14 of 2022 guidance that just came out, there is a potential, like if you were the developer and you wanted to sell that to somebody else, you can potentially sell that credit but you have to declare that the very beginning of this whole process. So, doing your homework upfront is very, very important versus risking this back piece of not getting all the credits you thought you were going to have because that could be detrimental, obviously, to your utility. If you went in thinking you're going to get all these credits and you're going to have a bottom dollar either cash payment back under the ITC or these 10-year annual payments and the PTC, now some of that gets wiped out. Obviously, that can have ramifications to your company on a severe financial basis.

Cindy Fee (16:46):
I think also, Lisa, that especially for the domestic content bonus, one of the things that could be a challenge is around the supply chain issues and getting some of the access to the panels and different supplies and ensuring that you're going to be able to secure those coming from a domestic resource versus from an overseas resource. And so, I think that that, what you're saying, again, this is a very highly complicated calculation that we're taking up to a 10,000-foot level but really that's one of those things I think that could create a big impact as well.

Lisa Hough (17:19):
Absolutely and because it's so new and we keep getting these different guidance’s. Like in January, when it first came to law, we were going down, or maybe a utility might be going down one path and now this guidance has come out and you're like, I wasn't going to go for that domestic content bonus and my plan now is to change because I have to have that without me getting anything. You really have to be very conscious and have a great consultant who's monitoring and watching as this is developing, and being challenged and being worked through how this is going to be interpreted. You really need to make sure you keep at least a little bit of some flexibility but also monitor very, very closely. This June 14 announcement has probably thrown a lot of plans into disarray.

Aidan Heisey (18:03):
I'm glad that announcement came out before we recorded this podcast because it's a great example of this piece of legislation is going to continue to be, we'll call it clarified, it almost feels like changed but we'll call it clarified, over time as it's in practice. You might feel that you got the rug pulled out from under you at some point. And so, what Lisa's talking about with having some third-party help or if you happen to have an internal expert, which is probably unlikely for most public power. Please do get somebody to help keep an eye on this as you go along and make sure that you're living up to your commitments as far as the IRA's concerned.

Lisa Hough (18:43):
Well, Aiden, I was just thinking you bring up a great point. Sometimes as public power, we're not as large as say our investor-owned counterparts. And so, our resources might be split between wearing multiple hats. And so, that's why it's great to have these development relationships either with a specific consultant that deals with IRA or partnering with your brokers such as Alliant, here. Partnering with a great broker who can provide that service and help you with that is definitely part of that homework from the very beginning you start off with. Who's going to help walk you through this from the very beginning?

Aidan Heisey (19:13):
What Lisa was alluding to before, I want to talk about the belt and suspenders approach. It's really kind of a passé way of describing insurance and risk management, but I still use it anyway. First, you've got your belt, you want to ensure that you fully understand what you've committed to in order to earn your tax credits. You want internal checks and balances, you want external help, if you can get it. And each phase you want to make sure that you're complying with your requirements. That's your belt. Insurance, of course, is the suspenders. Even with a great belt, mistakes can be made, unforeseen challenges can arise. There actually does exist an insurance product to protect your tax credits or your direct credits and to ensure that you don't find yourself in an economically challenging position if you've lost credits that you have already claimed. At this point, we don't have time to get into that. For now, thank you so much, Lisa. Thank you so much, Cindy. This is a really important topic that the public power community is just getting their arms around. And so, as much as we can do to clarify and help folks through this process, that's what we want to do. So, thank you so much, Lisa, and thank you, Cindy.