Distribution utilities are well positioned to provide tax equity for renewable projects, but some state laws prevent it. Tapping the potential will require progressive leadership by utility...
Green REITs, MLPs, and Up-Cs
the facility as a whole, all of the rental income earned by the REIT under the lease of the facility will be qualifying income for both REIT gross income tests (the “limited personal property exception”). If, however, the value of the personal property exceeds 15 percent of the value of the facility as a whole, the entire amount of rent that is attributable to the personal property will be non-qualifying income for both REIT gross income tests.
The MLP Vehicle
Generally speaking, an entity that is publicly traded—including an entity that would otherwise be treated as a partnership for tax purposes—is taxed a corporation that will be subject to the 35-percent corporate income tax unless the entity qualifies for taxation as a REIT or a mutual fund. MLPs, however, are an exception: they are publicly traded entities that are nevertheless taxed as partnerships and thus aren’t subject to entity-level taxation.
The requirements for being an MLP are much less onerous than the requirements for being a REIT. An MLP is subject to only one test: 90 percent of its income must consist of passive income, including income that qualifies under either of the REIT gross income tests (with the exception of interest income earned as part of an active lending business). There is no asset test and no distribution requirement. Therefore, other than engaging in active loan origination—which is distinguished, albeit by a sometimes blurry line, from passive trading in debt securities—an MLP can do everything a REIT can do, and then some.
The Up-C Vehicle
The primary benefit of REITs and MLPs is that they’re not subject to corporate-level tax. The Primary drawback of REITs and MLPs is that they’re subject to a number of technical requirements that limit their flexibility and usefulness. The public entity in an Up-C structure, on the other hand, is a regular “C” corporation, which means that its operations, though not limited by tax requirements, are subject to corporate-level tax. The main tax attraction to an Up-C structure is its ability to facilitate the tax-free acquisition of an unlimited variety of assets that can be operated without regard to the technical tax requirements imposed on REITs and MLPs.
In particular, in an Up-C structure, a public C corporation holds all of its assets through a partnership or LLC or other entity taxed as a partnership (either way, an “operating partnership”). The use of the operating partnership allows the C corporation to acquire assets on a tax-free basis in acquisitions that might otherwise be taxable if done directly by the C corporation. Acquisitions are typically accomplished through contributions of assets to the operating partnership in exchange for operating partnership units (OP units), which are structured to be the economic equivalent—including in terms of liquidity—to the publicly traded C corporation stock.
Comparison of Renewable Energy Capital Vehicles
None of the renewable energy capital vehicles described above is better or worse than the others—each one may be the right choice for a given unregulated utility, depending on how that utility plans to conduct its business and finance its operations.