Report on a session at the annual IBA ‘The New Era of Taxation Conference’ in Rio de Janeiro
Wednesday 1 November 2023

Session Chairs
Francesco Gucciardo, Aird & Berlis, Toronto
Leonardo Homsy, Mattos Filho, Rio de Janeiro

Panellists
Laura Castello Branco, Hydro REIN, Rio de Janeiro
Bruna Marrara, Machado Meyer, São Paulo
Meyyappan Nagappan, Trilegal, Mumbai
Joe Sullivan, Covington & Burling, Washington, DC

Reporter
Rogério Bittencourt, Mattos Filho, Rio de Janeiro

Introduction

The panel covered important and current matters involving the role of taxation in regard to energy transition goals, from fossil-based resources to renewable energy sources. The topics covered included: the current context and green policy aspects, the corporate counsel perspective, national fiscal policy initiatives, carbon trading and impact investing.

Panel discussion

At the beginning of the session, Leonardo Homsy introduced the topic, the speakers and presented a roadmap/agenda. Following this, Homsy, together with Francesco Gucciardo, presented the current context and the green policy aspects, in which they explained how the Organisation for Economic Co-operation and Development (OECD) Tax Report to the G20 – Net Zero+ Report and Policy Recommendations Update, the Paris Agreement and the European Green Deal have recently influenced discussions and official policies involving taxation, and how governments may use tax policies to stimulate the transition from fossil resources to clean energy.

Homsy highlighted that actions to reduce CO2 emissions, including tax-related initiatives, are urgent, because in a scenario without global cooperation, a net zero outcome would only be achieved by 2090. The panellist added that the power generation, transport and buildings industries are currently responsible for most global CO2 emissions.

Gucciardo referred to the last New Era of Taxation event, which had a similar topic, but was more EU-focused, and explained that the most important development in the field since then has been the aforementioned OECD Report to the G20. Gucciardo added that the OECD has concluded that carbon policies are not enough to achieve the net zero goals, and that governments need to ‘spend’ and start implementing tax incentives, such as credits, grants, accelerated depreciation or otherwise.

In this context, Gucciardo presented a ‘tax mechanisms’ pyramid, divided into three pillars: (1) tax benefits to stimulate socially desirable behaviour (eg, lower taxation on green sources); (2) increased taxation on fossil sources to deter socially undesirable behaviour (eg, excise or ‘sin’ taxes); and (3) environmental taxes to cover the costs of environmental maintenance and generate revenues for investment in environmental services and research and development (R&D).

Corporate counsel perspective

The next topic was presented by Laura Castello Branco, who provided commentary on how to navigate international systems and initiatives, as well as recent experience and concerns. Castello Branco discussed the Hydro REIN initiatives concerning the renewable energy market, including metal recycling, solar, wind, batteries and hydrogen investments, and its transition to net zero.

Castello Branco explained how multinational enterprises (MNEs) are dealing with the sustainable agenda, adding that industries are important stakeholders to drive change, and represent 40 per cent of global CO2 emissions. The panellist explained that the renewable energy generation market is heavily regulated and costly (in terms of capex investments). In the case of Brazil, renewable energy generation is subject to high taxation, plus a very complex tax system.

Answering Homsy’s question on how to manage such issues, Castello Branco said that countries need to calibrate the granting of tax incentives and special tax treatments to avoid uncertainty and to secure affordable power.

From the US perspective, Joe Sullivan presented a case study on Orsted, a Danish company that invested in an offshore wind project in the US, to illustrate the tax risks related to tax credits granted by the US government (most related to the Inflation Reduction Act), due to the lack of clear guidance on the matter.

National fiscal policy initiatives

Following this, the co-chairs introduced the next topic, and invited Meyyappan Nagappan to speak, who explained India’s green policy, consisting mainly of subsidies (eg, financial assistance for renewable projects and electric vehicles) and emissions trading mechanisms. India also has central and state level taxes on certain high carbon goods, including excise taxes and value-added tax (VAT) on fossil fuels. The country offers various subsidies and a reduced sales tax for electric vehicles. However, in contradiction to this, India also imposes sales tax on clean energy at a higher rate than other sources of energy.

Bruna Marrara continued the discussion, presenting the Brazilian fiscal policy related to energy. Marrara explained that the country offers tax exemptions on capital investments (capital expenditure (CapEx) and services importation, a state VAT exemption on the acquisition of certain items, such as wind turbines, solar heaters and photovoltaic generators), allows import tax reductions on clean energy items and imposes a higher rate of taxation on fossil fuels.

Marrara added that the long-awaited tax reform bill intends to incentivise all environmentally friendly economic activity; however, clean energy could be subject to high rate of taxation (as per the current version of the bill), and it will possibly put an end to current incentives, which would have a big impact on CapEx acquisition. Castello Branco added that the renewables market in Brazil will not be economically feasible without such incentives. Marrara also explained that the country has committed to an ecological transition, meaning that the enactment of a regulation on carbon credits and the creation of carbon taxes might be on the radar.

From a US perspective, Sullivan explained that tax credits (dollar-for-dollar offsets concerning tax liability) have become the primary means of incentivising green investment in the country, having the characteristic of providing direct funding for targeted behaviours and investments. However, there is some complexity as to whether companies and individuals qualify for them or not. As is typically the case with non-refundable or non-transferable credits, they are normally valuable for persons that have tax liabilities. In any case, it is possible to carry forward the credits to other tax periods.

US tax credits cover clean electricity generation, clean energy manufacturing and carbon reduction, including sustainable fuel, gas, oil and clean vehicles. Such credits can be refundable and transferable, however this is not typically available and are typically used in certain structures: primarily for solar and wind projects (eg, a partnership flip, sale and leaseback and inverted lease).

Sullivan also discussed the interaction between such incentives and the OECD Pillar Two Model Rules, which has generated concerns that transferable credits could be treated as non-refundable tax credits, potentially subjecting taxpayers to a top-up tax on the amount of the credits granted. The issues remain, even after the issuance of the July 2023 OECD guidance on Pillar Two.

On Canada’s green tax policies, Gucciardo presented six key areas of support being offered in the country: (1) accelerated depreciation; (2) immediate deduction of development costs – studies, exploitation and development (the Canadian renewable and conservation expense, or ’CRCE’); (3) flow-through share arrangements; (4) tax credits; (5) grants and support; and (6) reduced income tax rates. With a special focus on the second and third elements, Gucciardo claimed that this support is typically very valuable for investors, since they are able to immediately monetise the initial expenses incurred for renewable energy projects.

Gucciardo also mentioned that more recently Canada has furthered its commitment to clean and renewable energy and technology, adding investment tax credits for clean technology and energy, and a 50 per cent reduction in income tax rates for zero-emissions technology manufacturers.

Carbon trading

On the matter of carbon credits and trading, Nagappan explained several details concerning the Indian market. The regime was introduced in India in 1997 and nowadays includes an obligation on industries to purchase carbon credits, as a requirement for obtaining a renewable energy certification. According to the panellist, the existing scheme has resulted in a substantive reduction in CO2 emissions.

As regards the taxation of such credits, Nagappan explained that the transfer of carbon credits or certifications is subject to a lower income tax rate, ranging from 10 per cent to 18 per cent.

Marrara added that Brazil has still not regulated the carbon trading market (although two bills of law are currently before Congress), but there is great potential for generating revenue from it. Currently, carbon credits are traded (without proper regulation) and such revenue is taxed regularly.

Impact investing

Following this, Nagappan contributed to the discussion by providing an explanation of the ‘impact bonds’ market, which is a growing business and has robust frameworks to measure, manage and report impact metrics, differentiating them from traditional and environment, social and governance (ESG) related investment bonds. According to the G20, performance-based impact investment vehicles that fund the private sector are key to achieving environmental goals.

For Nagappan, considering the G20 green agenda, the impact bonds market is getting bigger and becoming more popular. The panellist also explored the Indian impact bonds market, which reached $7.5bn in 2021 and is growing rapidly.

Looking forward – filling the gap

The final topic on the agenda started with a question by Gucciardo, who asked how long incentives will last and what will replenish the tax base if there is a successful move away from fossil fuels and related ‘sin’ taxes. Castello Branco remarked on certain aspects that are contrary to that goal from a Brazilian perspective.

Following this, the panellists explained examples of excise and ‘sin’ taxes in their jurisdictions. In Sullivan’s opinion, since carbon/excise taxes on fuels are used as a form of direct funding for infrastructure in the US, with the increase in electric vehicles and renewable fuels, state/local governments may consider other infrastructure revenue sources.

Nagappan explained that in India there is not currently a reasonable basis for setting goods and services tax (GST) rates for carbon goods, and that there is need for a revenue neutral uniform carbon tax in India based on the carbon emissions of goods.

Conclusion and final remarks

To conclude, Homsy and Gucciardo thanked the audience and closed the panel.