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Prior to changes adopted by the 2001 Oregon legislature, Oregon’s pollution control facility tax credit program allowed a credit against corporation or personal income taxes equal to 50 percent of the cost of the facility for all qualifying facilities. Absent action by the 2001 legislature, the credit program would have sunsetted on December 31, 2001. For much of the 2001 legislative session, it looked like the tax credit program would indeed be allowed to sunset. However, in the waning hours of the session, the legislature took action to preserve the tax credit program, but not without dramatic changes to the application process and tax credit rates for facilities subject to the program.

Senate Bill 764 was passed on July 4th as part of a larger compromise involving Governor John Kitzhaber’s prescription drug formulary proposal. The bill itself, which was signed into law on August 9, 2001, is a classic compromise between competing interests. Industry sought to preserve as much of the pollution control facility tax credit program as possible, while the Governor wanted to allow the program to sunset. In particular, the Governor wanted to eliminate the credit for pollution control facilities whose principal purpose is simply to comply with requirements already imposed by other environmental laws. The resulting compromise signals a shift in policy that favors the construction and installation of facilities that are voluntary and not already required by law.

Background
The Oregon legislature first adopted a pollution control facility tax credit in 1967. The credit provided a means for Oregon industries to offset the costs of complying with new environmental statutes and regulations that were coming into existence during this era. Over time, the statutory wording and related administrative rules were refined, resulting in two basic categories of pollution control facilities that could qualify for the credit. A facility could qualify for a tax credit if it met either the definition of “principal purpose facility” or “sole purpose facility.”

As defined by statute, a principal purpose facility is a pollution control facility whose principal purpose “is to comply with a requirement imposed by theDepartment of Environmental Quality, the federal Environmental Protection Agency or regional air pollution authority to prevent, control or reduce air, water or noise pollution or solid or hazardous waste or to recycle or provide the appropriate disposal of used oil.” ORS468.155(1)(a)(A). By contrast, a sole purpose facility is a pollution control facility whose sole purpose “is to prevent, control or reduce a substantial quantity of air, water or noise pollution or solid or hazardous waste or to recycle or provide for the appropriate disposal of used oil.” ORS 468.155(1)(a)(B). These definitions remain unchanged by SB 764, and applicants will need to show that their facilities fit within one of the definitions as the initial hurdle for qualifying for a credit.

Under the prior law, once it was established that a facility met the principal purpose or sole purpose definition, the process was relatively straight-forward. Applications for tax credit certification had to be filed within two years of the date that construction of the facility was substantially complete, and the credit was equal to 50 percent of the certified cost of the facility.

SB 764
Under SB 764, the filing dates and credit rates are changed,with different rates depending on the type of facility and when the facility is completed. It should be noted that the bill does not undo or otherwise affect credits that have already been certified.

KEY SB 764 PROVISIONS INCLUDE:

NEW SUNSET DATE FOR ENTIRE TAX CREDIT PROGRAM: December 31, 2007. For any pollution control facility, construction must be complete, and the facility placed in service, on or before December 31,2007. (Prior law imposed a deadline of December 31, 2001.)

APPLICATION DEADLINE SHORTENED FROM 2 YEARS TO 1 YEAR: The bill requires a taxpayer to apply for certification within one year after construction is substantially completed. (The prior deadline was two years after completion of construction.) The application deadline may not be extended beyond December 31, 2008.(Under prior law, this deadline had been December 31, 2003.)

GRADUAL PHASE-OUT OF CREDIT: For facilities that do not qualify as “upper tier” facilities (see bullet below), the credit is phased down from 50 percent of eligible costs to zero. The phase-out is somewhat complicated. For facilities where construction commenced before January 1, 2001 and that are completed before January 1, 2004 (or certified by December 31, 2001), the credit is 50 percent of certified costs. Similarly, for facilities that are “certified under ORS 468.155 to 468.190 (1999 Edition),” the credit is 50 percent of certified costs. This provision, found in SB 764, section 6(1), was intended to create a safe harbor for projects under construction prior to the legislative session.

If a facility is certified pursuant to an application for certification filed on or after January 1, 2002, and the construction is commenced on or after January 1, 2001, and on or before December 31, 2003, the credit is 25 percent of certified costs.If a facility is certified pursuant to an application filed on or after January 1, 2002, and the construction is commenced on or afterDecember 31, 2003, and on or before December 31, 2005, the credit is 15 percent of certified costs. For facilities that commence construction after December 31, 2005, the facility is not eligible for a credit (unless it qualifies as an “upper tier” facility, described below).

Unfortunately, the final language in the bill is vague with respect to facilities where construction is commenced after January 1, 2001 but are completed on or before December 31, 2001. In addition, the bill’s language has created confusion over whether the two-year application deadline under the 1999 law or the one-year application deadline under HB 764 will be applicable to applications seeking certification for facilities completed prior to the effective date of the bill. (The bill takes effect on the ninety-first day after the date on which the legislature adjourned, meaning that the bill takes effect on October 6,2001.)

To address these issues, the Department of Environmental Quality (DEQ) is preparing to undertake an emergency rulemaking, currently scheduled for consideration by the Environmental Quality Commission (EQC) on September 21, 2001. The rule would make clear that facilities completed on or before December 31, 2001 would be subject to the 1999 law, thereby clarifying that the credit for such facilities will be 50 percent of eligible costs and that applicants for such facilities will have two years from the date of completed construction to file their applications. Such a rule is fully consistent with legislative intent. Assuming that the Commission adopts such a rule, the phase-out for the credit is as follows:

In the event the Commission does not adopt the above-described proposed rule, it is unclear at this time howDEQ will treat affected applications.

CREATION OF “UPPER TIER” CREDIT FOR LOW-COST, “VOLUNTARY,” AND CERTAIN OTHER PROJECTS: Not withstanding the phase-out described above, the bill creates a new upper tier of facilities that is immune from the phase-out.Any of the following facilities may qualify for a 35% credit, without phase-out, if the application for certification is filed on or after January 1, 2002 and construction is completed on or before December 31, 2007:

Applicant is certified under ISO 14001

DEQ green permit for the facility has been issued

Facility is a nonpoint source or is regulated as a confined animal feeding operation

Facility is used for material recovery or recycling

Facility is used in anagricultural or forest products operation and is used for energy recovery

Certified cost of the facility does not exceed $200,000

No portion of the facility is required by state or federal environmental law and construction of the facility is “entirely voluntary”

Facility is located within an enterprise zone or within an area designated as a distressed area (this provision was added by House Bill 2332 and does not appear in SB 764)

Applicant uses an “environmental management system” at the facility (discussed below).

ENVIRONMENTAL MANAGEMENT SYSTEM: For applicants for the “upper tier” credit, the bill creates the new concept of an environmental management system, defined as “a continual cycle of planning, implementing, reviewing and improving the actions undertaken at the facility to meet environmental obligations and improve environmental performance.” The actions must meet ISO 14001 standards, standards established in the Green Permit program, or other standards specified by Commission rule.

DEFINITION OF COMMENCING CONSTRUCTION: With the new statutory scheme, the bill’s authors realized the importance of clearly defining the point at which construction commences. The bill provides that construction commences when the person constructing or installing the facility has obtained all necessary preliminary approvals and has begun continuous on-site modification, construction, installation, or other activity leading to certification of the credit. Special rules apply for delays caused by matters beyond the owner’s control. The applicant bears the burden of proving that construction has commenced.

CARRY-FORWARD EXTENDED FOR EXISTING CREDITS: Forcredits that are unexpired as of the tax year beginning in 2001, the bill extends the regular three-year carry-forward period by an additional three years.

ENVIRONMENTAL CRIMES: The bill denies the credit for any tax year during which the taxpayer is convicted of a facility-related felony pursuant to state environmental statutes. The denial continues for the four years following the year of conviction. For purposes of determining the amount of credit that may be claimed after the denial period, the taxpayer is deemed to have used the credit during the period of denial.

TASK FORCE CREATED: Thebill creates the Pollution Control Tax Credit Improvement and Review Task Force to study and report to the legislature on the credit. The task forcewill include Governor-appointed representatives from agriculture, business, environmental advocacy, the general public, DEQ, EQC, and the Economic and Community Development Department. One Senator and one Representative will also be appointed by their respective chambers.

Applying to the Pollution Control Facility Tax Credit Program: Recent Case Law
As noted above, under the prior law and SB 764, an applicant must first establish that its facility meets the definition of “pollution control facility” to be eligible for the tax credit program, with most facilities qualifying either under the principal purpose test or sole purpose test. See ORS468.155. There is usually little controversy over whether a facility qualifies as a principal purpose facility, which includes those facilities that are constructed or installed to comply with a requirement imposed by DEQ, the US Environmental Protection Agency (EPA), or a regional air pollution authority (e.g., LRAPA). However, what qualifies as a sole purpose facility-i.e., a facility whose sole, or exclusive, purpose is to prevent, control or reduce a substantial quantity of air, water or noise pollution or solid or hazardous waste-is often the subject of dispute.

A good example of the controversy involves a pollution control facility tax credit application filed by Tidewater Barge Lines, Inc. in 1995 (Application No. 4417). The application involved the addition of a double hull to its petroleum barge, The Pioneer. Double hulls create a void,or containment area, between the cargo tanks and the water. Double hulls are designed such that any failure in the cargo tanks will result in the petroleum product being captured in the secondary hull, preventing the product from entering the water. The voids can then be pumped and cleaned, eliminating any pollution to the river system. In addition, double hulls create a buffer for the cargo tanks, such that damage to the exterior hull caused by collision or grounding will not affect the cargo tanks. In this way, the cargo does not reach the river system. Tidewater claimed that the construction of the double hull qualified for tax credit relief as a “sole purpose facility,” as the sole purpose of adding the double hull to The Pioneer was to prevent water pollution. (The double hull did not qualify as a principal purpose facility, as it was not required by DEQ, EPA, or a regional air pollution authority.)

The EQC originally denied Tidewater’s application for The Pioneer, stating at the time of the denial that The Pioneer’s double hulling did not qualify as a sole purpose facility because the sole and exclusive purpose of double hulling was not pollution control. According to the EQC order denying the application, the double hulling served other purposes, such as improving safety, lowering insurance costs, avoiding loss of the petroleum product, and providing other business-related benefits. The EQC’s decision touched off a long dispute over the procedural aspects of the EQC’s decision, which eventually led to a settlement. See Tidewater Barge Lines Inc. v. Oregon Environmental Quality Commission, 159 Or App 296 (1999), appeal dismissed, 330 Or 253 (2000).

In the meantime, as the Pioneer appeal was making its way through the court system, Tidewater filed two additional pollution control facility tax credit applications for double hulls that were added to two additional barges. The EQC eventually approved both applications, but not before addressing several key issues on what might disqualify a facility from the sole purpose facility definition.

EQC’s position was that to the extent that double hulling served any purpose other than pollution control, the facility would be disqualified under the sole purpose test. Thus, Tidewater was put in the position of having to disprove other purposes. Regarding EQC’s claim that the addition of a second hull would lower insurance rates, evidence from the insurers indicated that Tidewater in fact paid a higher premium on double-hulled vessels. Regarding EQC’s claim that the double hull was really added to improve the safety of the vessel and crew, evidence indicated that the addition of a double hull made it more difficult for the crew to enter and clean the void and also potentially increased the risk of an on-board explosion. On the claim that the purpose of a double hull was to avoid the loss of petroleum product, Tidewater pointed that it did not insure the cargo it transports against loss, and even if it did, there was no discounted rate for marine cargo insurance based upon the use of a barge with a double hull as compared to a barge with a single hull.

While the alleged “incidental” business benefits described above turned out not to be benefits at all, the case highlighted the underlying legal issue, which was to what extent would incidental, business-related benefits become so great as to disqualify a facility as a sole purpose facility. From Tidewater’s perspective, even if it had been established that safety improvements, lower insurance costs, and avoiding product loss had some negligible effect on the overall expense of double hulling, these benefits would be incidental at best and did not contribute to the “purpose” behind Tidewater’s decision to add the doublehulls. Stated directly, Tidewater claimed that it did not add the double hulls to its barges for the purpose of gaining the alleged, and at best incidental, benefits.

In fact, it is likely that every sole purpose facility will generate at least some incidental benefit to the facility owner. For example, any business that adds a pollution control facility, whether required by law or not, will gain benefits in the nature of good will. Thus, just because Tidewater may have been able to secure a better public image because it added double hulls to its petroleum barges, such an incidental benefit should not be the basis for ruling out double hulls as sole purpose facilities.

DEQ has since recognized this point. In a Department memorandum to the Commission, DEQ takes the following position: “The Department recognizes that whenever an applicant installs a pollution control facility, there will always be incidental benefits even if those benefits are only to improve public relations and reputation. However, the EQC has the discretion to determine when an incidental benefit becomes the ‘purpose’ of the facility.” See Memo. from Langdon Marsh to EQC, June 8, 1999, at 2-3. It is this subtle distinction that is likely to continue to be the focus of inquiry into whether facilities are truly sole purpose pollution control facilities eligible for tax credit relief.

Summary

In sum, SB 764 extends the sunset for the Oregon pollution control facility tax credit program, but with new application deadlines and adjusted rates. Applicants should pay close attention to facility construction and installation schedules and application deadlines to maximize the value of their credits. Finally, when applicants seek to qualify a facility under the sole purpose prong of the definition of pollution control facility, applicants should be careful to consider other potential benefits of the facility and should be prepared for inquiries into whether those other benefits become the purpose of the facility, thereby making the facility ineligible for the credit.

FOR ADDITIONAL INFORMATION, CONTACT: Robert T. Manicke, Stoel Rives LLP, 503/ 294-9664, and David E. Filippi, Stoel Rives LLP, 503/ 294-9529. The authors represented Tidewater Barge Lines in the case described above.
DEQ CONTACT: Maggie Vandehey, DEQ Tax Credit Manager, 503/ 229-6878.

Published September 1, 2001 in Issue 279 of Oregon Insider, a twice-monthly environmental management and regulatory update. David Light, Editor, Oregon Insider, Phone: 541/343-8504, epi@rio.com.