On November 30, 2023, Bill C-59 received first reading in the House of Commons and the Department of Finance released detailed Explanatory Notes. Bill C-59 can be found here and the related Explanatory Notes can be found here.

Among other tax measures, Bill C-59 will enact the Carbon Capture, Utilization and Storage Investment Tax Credit (CCUS ITC), the Clean Technology Investment Tax Credit (CT ITC) and the labour requirements (Labour Requirements) that must be satisfied to maximize these tax credits as well as the proposed Investment Tax Credit for Clean Hydrogen (CH ITC) and the proposed Clean Electricity Investment Tax Credit (CE ITC).

The CH ITC and Clean Technology Manufacturing Investment Tax Credit (CTM ITC) were announced in Budget 2023 and draft legislation to implement these credits was released on December 20, 2023 which can be found here. The CE ITC was also announced in Budget 2023 but no draft legislation relating to this credit has been released.

This article reviews the CCUS ITC. Our review of the CT ITC can be found here and our review of the Labour Requirements can be found here. We will prepare a review of the CH ITC and CTM ITC.

All statutory references are to the Income Tax Act (Canada) (Tax Act) as amended by Bill C-59.

Background

In Budget 2021, the Government announced that it intended to introduce an investment tax credit for investments in carbon capture, utilization and storage (CCUS) projects to come into effect in 2022. The Government initiated a 90-day consultation period with stakeholders on the design of the credit, including the rate. The Government made it clear that the credit would not be available for enhanced oil recovery projects, that there would be a recovery mechanism if the portion of carbon dioxide going to an ineligible use was more than 5% higher than set out in the initial project plans and that there would be a public knowledge sharing requirement applicable to CCUS projects that expect to have eligible expenses of at least $250 million over the life of the project.

Budget 2022 formally announced the CCUS ITC, stating that it would be refundable and available to businesses incurring eligible expenses on or after January 1, 2022. Draft legislation was released on August 9, 2022.

Budget 2023 announced additional details in response to consultations with industry and included draft legislation with respect to the disclosure and knowledge sharing reporting requirements.

On August 4, 2023 the Government released revised draft legislation (August 4 Proposals) to implement the CCUS ITC. Our commentary on the August 4 Proposals can be found here.

Bill C-59 includes further revisions to the provisions applicable to the CCUS ITC.

We consider the main features of the CCUS ITC below.

Highlights

• only taxable Canadian corporations can claim the CCUS ITC
• the credit is generally available when qualifying expenditures are incurred unlike other investment tax credits, including the CT ITC, which are available only when the relevant property becomes available for use for capital cost allowance purposes. However, a new rule in Bill C-59 will treat an expenditure as being incurred in the later of the taxation year in which the expenditure is incurred and the taxation year in which the relevant property is acquired which will adversely affect multi-year projects
• the credit is only available in respect of qualifying expenditures, including refurbishment expenditures, incurred for a qualified CCUS project
• the Minister of Natural Resources (NR Can) must issue a project evaluation for the project
• the project must plan to operate for at least 20 years
• at least 10% of captured carbon must be expected to be stored or used in an eligible use
• the amount of the credit in respect of some expenditures depends in part on the percentage of captured carbon expected to be stored or used in an eligible use; for other expenditures, no credit is available unless the expenditure relates exclusively to an eligible use
• the credit may be clawed back through a recovery tax based on a comparison between the actual percentage of captured carbon stored or used in an eligible use and the projected percentages
• the comparison for recovery tax is generally made over four consecutive (approximately) 5-year “project periods”
• the recovery tax is generally payable over 5 years
• a knowledge sharing requirement is mandated for large ($250 million) qualified CCUS projects
• a retention period for books and records necessary to verify information pertaining to the credit is extended to 26 years after the last credit is claimed

Purpose

Consistent with the recent practice of the Department of Finance to include statements of purpose to assist in the interpretation of legislative schemes, Bill C-59 states that the purpose of the CCUS ITC is “to encourage the investment of capital in the development and operation of carbon capture, transportation, utilization and storage capacity in Canada”.

Qualifying Taxpayers

Only a “qualifying taxpayer” is entitled to claim the CCUS ITC. A qualifying taxpayer is a taxable Canadian corporation. Bill C-59 includes rules that apply to partnerships to enable partners that are taxable Canadian corporations to claim their share of the CCUS ITC derived from qualified CCUS expenditures made by the partnership to acquire property in respect of qualified CCUS projects.

The definition of qualifying taxpayer reflects a policy choice to exclude, for example, individuals, tax-exempts and non-residents carrying on business through a branch in Canada from entitlement to the CCUS ITC. The Explanatory Notes to the August 4 Proposals stated that this choice was made in order to avoid having to create complex rules to prevent unintended planning opportunities.

Qualified CCUS Project

A qualifying taxpayer’s CCUS ITC is comprised of two components: the taxpayer’s “cumulative CCUS development tax credit” and the taxpayer’s “CCUS refurbishment tax credit”. In order for an expenditure to be included in either component, it must be incurred for a “qualified CCUS project”.

A “qualified CCUS project” is a “CCUS project” that meets certain conditions.

A “CCUS project” is a project intended to support a “CCUS process” by:

• capturing carbon dioxide that would otherwise be released into the atmosphere or capturing carbon dioxide from the ambient air (such carbon dioxide is referred to a “captured carbon”);
• transporting captured carbon; or
• storing or using captured carbon.

A “CCUS process” is the process of carbon capture, utilization and storage including the capture of carbon dioxide that would otherwise be released into the atmosphere, the capture of carbon dioxide from the ambient air and the storage or use of captured carbon. For the purpose of determining whether a process is a CCUS process, any technical guide published by NR Can is to apply conclusively with respect to engineering and scientific matters.

In order for a CCUS project to be a qualified CCUS project, the project must have a “project plan” that:

• reflects a front-end engineering design study (or equivalent as determined by NR Can) for the project;
• describes the quantity of captured carbon that the CCUS project is expected to support for storage or use in each calendar year over its “total CCUS project review period” allocated between “eligible use” and “ineligible use”. An “eligible use” consists of the storage of captured carbon in dedicated geological storage, or use of captured carbon in producing concrete in Canada or the United States using a qualified concrete storage process‍. An “ineligible use” is (i) the emission of captured carbon into the atmosphere (except for incidental emissions made in the ordinary course of operations and emissions made for the purposes of system integrity or safety. (ii) the storage or use of captured carbon for enhanced oil recovery, and (iii) any other storage or use that is not an eligible use.
• contains information required by NR Can; and
• is filed with NR Can before the first day of commercial operations.

In the August 4 Proposals, the “first day of commercial operations” was defined to mean the day on which captured carbon dioxide is first delivered to a carbon transportation, carbon storage or carbon use system for the purpose of storage or use. Under this definition, the first day of commercial operations would actually have been in the testing phase of the project. Bill C-59 changes the definition such that the “first day of commercial operations” is the day that is 120 days after the day on which captured carbon dioxide is first delivered to a carbon transportation, carbon storage or carbon use system for the purpose of storage or use on an ongoing operational basis. The phrase “on an ongoing operational basis” is intended to clarify that incidental delivery of captured carbon during start-up testing does not constitute commercial operations. In addition, as described below, expenditures incurred before the first day of commercial operations are taken into account in computing a taxpayer’s cumulative CCUS development tax credit while those incurred after the first day of commercial operations and during the total CCUS project review period are taken into account in determining the taxpayer’s CCUS refurbishment tax credit. Bill C-59 effectively provides a 120 day period in which qualifying expenditures that would otherwise be taken into account in determining the taxpayer’s CCUS refurbishment tax credit can be taken into account in computing the more favourable cumulative CCUS development tax credit.

The total CCUS project review period of a CCUS project is approximately 20 years. Technically, a project’s “total CCUS project review period” is the period that begins on the “first day of commercial operations” and ends on the last day of the “fourth project period”. The end of the “first project period” of a CCUS project depends on the date on which the first day of commercial operations occurs, or if the project has not yet commenced operations, “the day on which, according to the most recent project plan, operations are expected to begin”. If that day is before October 1, the first project period ends on December 31 of the calendar year that includes the fourth anniversary of that day so the first project period could be less than 5 years. If that day is after September 30, the first project period ends on December 31 of the calendar year that includes the fifth anniversary of that day in which case the first project period could extend for up to 5 years and three months. The second, third and fourth project periods end on the fifth anniversary of the end of the preceding project period. Although Bill C-59 changed the definition of “first day of commercial operations”, no change was made to the portion of the definition of “first project period” which contemplates the circumstance where operations have not commenced; it continues to refer to “the day on which…operations are expected to begin” although the Explanatory Notes refer to that date as “their expected first day of commercial operations” (presumably incorporating the 120-day buffer period).

The “projected eligible use percentage” of a project for a project period is the proportion, expressed as a percentage, that (i) captured carbon that the project is expected to support for storage or use in an eligible use during the period, is of (ii) captured carbon that the project is expected to support for storage or use in both eligible uses and ineligible uses during the period. The projected eligible use percentage for a project period is relevant in determining the CCUS ITC relating to Qualified Carbon Capture Expenditures and Qualified Carbon Transportation Expenditures described below and in determining if any recovery tax is payable based on actual use.

NR Can may request that a taxpayer file a revised project plan before the first day of commercial operations of a project if it determines that there has been a material change to the project. A taxpayer must also file a revised project plan if there is a reduction of more than 5 percentage points in the projected eligible use percentage in respect of the project during any project period. If a revised plan is not filed within 90 days, the taxpayer’s projected eligible use percentage is deemed to be nil for the total CCUS project review period until the revised project plan is filed.

To be a “qualified CCUS project”, a CCUS project must meet all of the following conditions:

• based on the most recent project plan, it is expected to support carbon capture in Canada for a period that is at least equal to the total CCUS project review period for the project;
• NR Can has issued an initial project evaluation in respect of the project;
• based on the most recent project plan, its “projected eligible use percentage” is at least 10% during each of the following periods: (i) if the first project period begins after September of a calendar year, the period beginning on the first day of commercial operations and ending on December 31 of the following calendar year, and (ii) each calendar year of the project’s total CCUS project review period other than a period that includes a year referred to in (i). Effectively, this requires that a CCUS project must plan to operate for at least 20 years in order to be eligible for the CCUS ITC; and
• it is not a project that is operated to service a unit for which the commissioning date was before April 8, 2022 and undertaken for the purpose of complying with emission standards under the Reduction of Carbon Dioxide Emissions from Coal-fired Generation of Electricity Regulations.

Eligible and Ineligible Uses

An “eligible use” of captured carbon is storing it in “dedicated geological storage” or using it in producing concrete in Canada or the United States using a “qualified concrete storage process”.

For geological storage, the relevant geological formation must be located in a “designated jurisdiction”, must be capable of permanently storing captured carbon and cannot be a formation in which any captured carbon is used for enhanced oil recovery. The Minister of the Environment may designate a jurisdiction within Canada or the United States if it has sufficient environmental laws and enforcement governing the permanent storage of captured carbon. Bill C-59 deems Alberta, Saskatchewan and British Columbia to have been designated for this purpose.

For concrete storage projects, at least 60% of the captured carbon that is injected into concrete must be expected to be mineralized and permanently stored in the concrete. The process must be evaluated against the ISO 14034:2016 standard “Environmental management – Environmental technology verification” (ISO 14034:2016) and validated by an accredited person.

Qualified CCUS Expenditures

The amount of a qualifying taxpayer’s CCUS ITC is based on the taxpayer’s “qualified CCUS expenditure”. Qualified CCUS expenditures incurred before the first day of commercial operations of a qualified CCUS project are taken into account in determining a taxpayer's cumulative CCUS development tax credit while those incurred after the first day of commercial operations and during the total CCUS project review period are taken into account in determining the taxpayer’s CCUS refurbishment tax credit.

Unlike the CT ITC, the available for use rules do not apply in relation to CCUS projects. However, there are rules which defer the time at which an expenditure is considered to have been incurred. See below under “Special Rules Applicable to Determining Capital Cost and Amount and Timing of Qualified CCUS Expenditures”.

Qualified CCUS expenditures are comprised of Qualified Carbon Capture Expenditures, Qualified Carbon Transportation Expenditures, Qualified Carbon Storage Expenditures and Qualified Carbon Use Expenditures. Qualified CCUS expenditures are described in part by reference to new capital cost allowance Classes 57 and 58 in Schedule II to the regulations under the Tax Act.

Qualified Carbon Capture Expenditures

Qualified Carbon Capture Expenditures relate to the capital cost of property situated in Canada that is:

• equipment (Eligible CCUS Equipment) that is not expected to be used for hydrogen production, natural gas processing or acid gas injection and that:
  • is not oxygen production equipment and is used solely for capturing carbon dioxide directly from the ambient air or that would otherwise be released into the atmosphere,
  • prepares or compresses captured carbon for transport,
  • generates or distributes electrical energy and/or heat energy that solely supports a qualified CCUS project, unless the equipment uses fossil fuels and emits carbon dioxide that is not subject to capture by a CCUS process,
  • is transmission equipment that solely supports a qualified CCUS project by directly transmitting the foregoing electrical energy to the qualified CCUS project, or
  • collects, recovers, treats and/or recirculates water that solely supports a qualified CCUS project;
• property that is physically and functionally integrated with the foregoing equipment subject to certain exceptions (Integrated Property)
• monitoring and control equipment used solely to support Eligible CCUS Equipment or Integrated Property
• a building or other structure all or substantially all of which is used, or to be used, for the installation or operation of Eligible CCUS Equipment, Integrated Property or monitoring and control equipment relating to the foregoing; or
• property that is used solely to convert property into any of the foregoing or refurbish any of the foregoing.

In the case of property acquired before the first day of commercial operations of the project, NR Can must verify that the property meets the requirements to be included in computing Qualified Carbon Capture Expenditures.

Certain property that is verified by NR Can and that produces power and/or heat or collects, recovers, treats and/or recirculates water but not solely in support of a CCUS process may qualify as “dual use equipment” such that an appropriate portion of the capital cost of the property can be taken into account in determining Qualified Carbon Capture Expenditures.

The portion of the capital cost of eligible property that is included as a Qualified Carbon Capture Expenditure depends on the time the expenditure is incurred (i.e., before commercial operations or the particular project period, as applicable) and the projected eligible use percentage for each project period that includes or begins after the time of the expenditure. In the case of expenditures incurred before commercial operations or in the first project period where 100% eligible use is projected for all project periods, the full amount of the relevant expenditures will be Qualified Carbon Capture Expenditures.

Qualified Carbon Transportation Expenditures

The definition of Qualified Carbon Transportation Expenditure is similar to the definition of Qualified Carbon Capture Expenditure but there is no provision for dual use equipment.

Qualified Carbon Transportation Expenditures relate to the capital cost of property situated in Canada that is:

• equipment (Eligible Transportation Equipment) that is to be used solely for transportation of captured carbon;
• property that is physically and functionally integrated with the foregoing equipment subject to certain exceptions (Integrated Transportation Property)
• monitoring and control equipment used solely to support Eligible Transportation Equipment or Integrated Transportation Property;
• a building or other structure all or substantially all of which is used, or to be used, for the installation or operation of Eligible Transportation Equipment, Integrated Transportation Property or monitoring and control equipment relating to the foregoing; or
• property that is used solely to convert property into any of the foregoing or refurbish any of the foregoing.

In the case of property acquired before the first day of commercial operations of the project, NR Can must verify that the property meets the requirements to be included in computing Qualified Carbon Transportation Expenditures.

Like the definition of Qualified Carbon Capture Expenditure, the portion of the capital cost of eligible property that is included as a Qualified Carbon Transportation Expenditure depends on the time the expenditure is incurred (i.e., before commercial operations or the particular project period, as applicable) and the projected eligible use percentage for each project period that includes or begins after the time of the expenditure.

Qualified Carbon Storage Expenditures

A Qualified Carbon Storage Expenditure is the capital cost of property situated in Canada that is expected, based on the qualified CCUS project's most recent project plan before the time the expenditure is incurred, to support storage of captured carbon solely in dedicated geological storage.

The property must be:

• equipment (Eligible Storage Equipment) that is to be used solely for storage of captured carbon in a geological formation (other than for enhanced oil recovery);
• property that is physically and functionally integrated with the foregoing equipment subject to certain exceptions (Integrated Storage Property)
• monitoring and control equipment used solely to support Eligible Storage Equipment or Integrated Storage Property;
• a building or other structure all or substantially all of which is used, or to be used, for the installation or operation of Eligible Storage Equipment, Integrated Storage Property or monitoring and control equipment relating to the foregoing; or
• property that is used solely to convert property into any of the foregoing or refurbish any of the foregoing.

In the case of property acquired before the first day of commercial operations of the project, NR Can must verify that the property meets the requirements to be included in computing Qualified Carbon Storage Expenditures.

Eligible Storage Equipment must be used solely for storage of captured carbon. There is no ability to prorate between eligible and ineligible uses.

Qualified Carbon Use Expenditures

A Qualified Carbon Use Expenditure is the capital cost of property situated in Canada that is expected, based on the qualified CCUS project's most recent project plan before the time the expenditure is incurred, to support storage or use of captured carbon in producing concrete in Canada or the United States using a qualified concrete storage process. There is no ability to prorate between eligible and ineligible uses

The property must be:

• equipment (Eligible Industrial Production Equipment) to be used solely for using carbon dioxide in industrial production;
• property that is physically and functionally integrated with the foregoing equipment subject to certain exceptions (Integrated Industrial Production Property)
• monitoring and control equipment used solely to support Eligible Industrial Production Equipment or Integrated Industrial Production Property;
• a building or other structure all or substantially all of which is used, or to be used, for the installation or operation of Eligible Industrial Production Equipment, Integrated Industrial Production Property or monitoring and control equipment relating to the foregoing; or
• property that is used solely to convert property into any of the foregoing or refurbish any of the foregoing.

In the case of property acquired before the first day of commercial operations of the project, NR Can must verify that the property meets the requirements to be included in computing Qualified Carbon Use Expenditures.

Special Rules Applicable to Determining Capital Cost and Amount and Timing of Qualified CCUS Expenditures

The capital cost of Class 57 or 58 property is determined without reference to subsections 13(7.1) and (7.4) (allowing CCUS ITCs to be disregarded in computing capital cost) but is reduced by the amount of any “non-government assistance” (as defined in subsection 127(9)) that, at the time of the filing of the taxpayer's tax return, the taxpayer has received, is entitled to receive or can reasonably be expected to receive in respect of the property. If, in a particular taxation year, the taxpayer repays (or has not received and can no longer reasonably be expected to receive) non-government assistance that reduced the capital cost of property, the amount repaid (or no longer expected to be received) is deemed to be added to the cost to the taxpayer of a property acquired in the particular year for the purpose of determining the taxpayer's CCUS ITC for the year.

While the CCUS ITC is generally available when qualified CCUS expenditures are incurred, this is subject to three special rules:

• the amount of any expenditure that is unpaid on the day that is 180 days after the end of the taxation year in which it is otherwise incurred is deemed to be incurred at the time it is paid (effectively denying the CCUS ITC in respect of such an unpaid amount until it is paid);
• if an expenditure is incurred in a different taxation year from the year in which the related property is acquired, the expenditure is deemed to be incurred, and the property is deemed to be acquired, in the later of the two years. This rule had not been proposed before Bill C-59. The Explanatory Notes indicate that this rule could apply where property is purchased in one year but delivery does not occur until a subsequent year. In that case, the expenditure would not be incurred until the property is delivered. The Explanatory Notes indicate that this rule does not override the 180 day rule above; and
• in the case of property imported into Canada, a special rule generally applies to defer the date that an expenditure is incurred and property acquired until the time it is imported.

The amount of a qualified CCUS expenditure of a taxpayer does not include:

• the amount of any expenditure incurred before 2022 or after 2040;
• the amount of any expenditure incurred to acquire property that was used for any purpose by any person or partnership before it was acquired by the taxpayer (i.e., the CCUS ITC is only available in respect of new property);
• the amount of any expenditure for which a CCUS ITC was previously deducted by any person or for which a CT ITC or investment tax credit under section 127 is claimed;
• the amount of any expenditure incurred for a “preliminary CCUS work activity” which are activities that are preliminary to the acquisition, construction, fabrication or installation of Class 57 or Class 58 property in respect of a CCUS project. Examples of such activities are obtaining permits or regulatory approvals, performing design or engineering work including front-end engineering design studies (or equivalent studies as determined by NR Can), conducting feasibility studies or pre-feasibility studies (or equivalent studies as determined by NR Can), conducting environmental assessments, and clearing or excavating land;
• any amount added to the cost of a property under section 21 (which allows a taxpayer to capitalize certain interest payable on money borrowed to acquire depreciable property or on the unpaid balance of the purchase price of depreciable property);
• an expenditure that is incurred by a taxpayer on or after the first day of commercial operations of the CCUS project to the extent that the total of all such amounts exceeds 10% of the total of all qualified CCUS expenditures incurred by the taxpayer before the first day of commercial operations of the CCUS project;
• the amount of any expenditure to acquire a property that the taxpayer disposes of (except where the taxpayer and the purchaser make the election under Part XII.7 discussed below) or exports from Canada in the same taxation year as the taxpayer acquired the property; or
• the amount of an expenditure incurred for a service rendered by a non-arm’s length person is limited to the lesser of the amount of the expenditure otherwise incurred by the taxpayer and, simplified, the cost to the supplier of rendering the particular service.

Calculation of the Credit Amount

A taxpayer’s CCUS ITC for a taxation year is composed of two amounts:

• the amount by which the taxpayer’s “cumulative CCUS development tax credit” for the year exceeds the taxpayer’s cumulative CCUS development tax credit for the immediately preceding taxation year; and
• the amount of the taxpayer’s CCUS refurbishment tax credit for the year.

A taxpayer’s cumulative CCUS development tax credit for a particular taxation year is the amount of the taxpayer’s qualified CCUS expenditures (i.e., Qualified Carbon Capture Expenditures, Qualified Carbon Transportation Expenditures, Qualified Carbon Storage Expenditures and Qualified Carbon Use Expenditures) incurred prior to the first day of commercial operations of the CCUS project, whether in the year or in a prior year, multiplied by the applicable “specified percentage”. Bill C-59 contemplates that a taxpayer maintains a single cumulative CCUS development tax credit account for all qualified CCUS projects rather than separate project-specific accounts.

The applicable specified percentage depends on the type of expenditure incurred and when it is incurred. Between January 1, 2022, and December 31, 2030, the specified percentages are as follows:

• 60% for Qualified Carbon Capture Expenditures incurred to capture carbon from the ambient air;
• 50% for Qualified Carbon Capture Expenditures related to projects to capture carbon otherwise from the ambient air; and
• 5% for Qualified Carbon Transportation Expenditures, Qualified Carbon Storage Expenditures and Qualified Carbon Use Expenditures.

For the period from January 1, 2031 to December 31, 2040, the specified percentages are one-half of those described above. No credit is available for expenditures incurred after December 31, 2040.

A taxpayer’s CCUS refurbishment tax credit for a taxation year captures qualified CCUS expenditures incurred after the first day of commercial operations and in the total CCUS project review period. It is the total of all qualified CCUS expenditures incurred in the year and during the total CCUS project review period multiplied by the applicable specified percentage. However, the total qualified CCUS expenditures eligible for the refurbishment tax credit are capped at 10% of the total qualified CCUS expenditures incurred by the taxpayer before the first day of commercial operations.

As discussed in our blog on the Labour Requirements [here], if the taxpayer does not elect to satisfy the Labour Requirements, the applicable specified percentage will be reduced by 10%.

Claiming the CCUS ITC

To claim a CCUS ITC for a taxation year, a qualifying taxpayer must file a prescribed form on or before the date its tax return is due for the year. Unlike the CT ITC, Bill C-59 does not require the prescribed form to be filed with the taxpayer’s income tax return for the year. If the prescribed form is not filed within one year of the filing due date for the taxation year, no CCUS ITC will be available for that year. Bill C-59 expressly provides that the Minister does not have the discretion under subsection 220(2.1) to waive the requirement.

If the qualifying taxpayer files the prescribed form as required, the taxpayer is deemed to have paid on its balance-due day for the year on account of its tax payable under Part I of the Tax Act for the year an amount equal to the taxpayer’s CCUS ITC. To the extent that the CCUS ITC and any other refundable credits and instalment payments exceed the taxpayer's tax otherwise payable under Part I for the year, the taxpayer is entitled to a refund.

For certain provisions of the Tax Act that apply in relation to an amount deducted in computing tax payable (the CCUS ITC, paragraph 12(1)(t), subsection 13(7.1), the description of I in the definition undepreciated capital cost in subsection 13(21), subsections 53(2) and 96(2.1), section 127.45 (relating to the CT ITC) and Part XII.7), an amount equal to the taxpayer’s CCUS ITC is deemed to have been deducted from the taxpayer’s tax otherwise payable under Part I of the Tax Act.

A CCUS ITC claimed by the taxpayer in a taxation year in respect of the acquisition of a property in the taxation year will normally reduce the capital cost of the property in the following taxation year under paragraph 13(7.1)(e). However, if the property is disposed of before the CCUS ITC is claimed, the “undepreciated capital cost” (UCC) of the class in which the property was included will be reduced by the amount of the CCUS ITC for subsequent taxation years.

Partnerships

Only taxable Canadian corporations may claim the CCUS ITC.

However, the CCUS ITC may be claimed by a partner of a partnership in respect of qualified CCUS expenditures made by the partnership to acquire property in respect of qualified CCUS projects if the partner is a taxable Canadian corporation.

In general, where a CCUS ITC would be determined in respect of a partnership if the partnership were a taxable Canadian corporation (i.e., because the partnership made a qualified CCUS expenditure in respect of a qualified CCUS project) the portion of the amount of the CCUS ITC that can reasonably be considered to be a partner’s share of the credit is added in computing the partner’s CCUS ITC at the end of the particular year if the partner is a taxable Canadian corporation. The amount so added will reduce the adjusted cost base of the partnership interest to the partner.

Bill C-59 adds new section 127.47 to address the allocation of “clean economy tax credits” by a partnership. Bill C-59 defines “clean economy tax credits” as the CCUS ITC and CT ITC but this definition will be expanded. The provisions of section 127.47 will override the general rule described above where there is a conflict.

Subsection 127.47(2) provides that, where a partner’s share of a clean economy tax credit is not reasonable in the circumstances having regard to the capital invested in or work performed for the partnership by the partners or such other factors as may be relevant, that share shall, notwithstanding any agreement, be deemed to be the amount that is reasonable in the circumstances (Reasonable Allocation Rule). In the August 4 Proposals, the Reasonable Allocation Rule was to be included in section 103.

Subsection 127.47(4) is a new apportionment rule which provides that the amount required by any clean economy allocation provision (i.e., currently the rules relating to the CCUS ITC and CT ITC) to be added in computing a particular clean economy tax credit of a taxpayer in respect of a partnership for the taxation year in which the partnership’s fiscal period ends is deemed to be the portion of the amount otherwise determined under section 127.47 in respect of the taxpayer that is reasonably attributable to each particular clean economy tax credit. This rule appears to prevent streaming of particular types of credit to different partners. The examples in the Explanatory Notes indicate that allocating credits based on the proportion of qualifying expenditures or credit amounts may be reasonable in the circumstances.

In the August 4 Proposals, it was not clear whether the capital cost of property acquired by the partnership would be reduced by CCUS ITCs claimed by the partners. In particular, subsection 127(12), which was intended to achieve the former reduction under subsection 13(7.1) for investment tax credits, was not made applicable to the CCUS ITC. Subsection 127.47(6) provides that amounts added to a partner’s CCUS ITCs are deemed to be government assistance received by the partnership at the end of the partnership’s fiscal year which reduces the partnership’s undepreciated capital cost balance for the related eligible property.

Limited Partnerships

In the August 4 Proposals, subsections 127(8.1) to (8.5) were to apply to determine the amount of CCUS ITCs generated by expenditures of a limited partnership to be allocated to the partners with such modifications as the circumstances require. These rules are complex but, in brief, the amount of the CCUS ITC that could be allocated to a particular limited partner was limited to the lesser of (i) the amount of the CCUS ITC considered to arise because of the expenditure of the limited partner’s “expenditure base” (as defined in subsection 127(8.2)), and (ii) the limited partner’s “at-risk amount” (as determined under subsection 96(2.2)) at the end of the particular fiscal period. Where CCUS ITCs could not be allocated to limited partners due to these restrictions, the unallocated credits could be allocated to general partners. The reference to subsections 127(8.1) to (8.5) was removed in Bill C-59.

Instead, Bill C-59 makes a relieving change relative to amount of tax credits that can be allocated to a limited partner. Subsection 127.47(3) provides that, if a taxpayer is a limited partner of a partnership at the end of a fiscal period of the partnership, the total of all “clean economy tax credits” allocated to the taxpayer by the partnership in respect of that fiscal period shall not exceed the taxpayer’s at-risk amount in respect of the partnership at the end of that fiscal period. The second limitation in the August 4 Proposals related to expenditure base has been deleted. The at-risk amount limitation in subsection 127.47(3) “trumps” the allocation under the Reasonable Allocation Rule. Bill C-59 does not include a rule analogous to subsection 127(8.3) deeming the amount by which a limited partner’s reasonable share is reduced to be the reasonable share of the general partner.

Bill C-59 also provides a look-through rule applicable to tiered partnerships.

An example in the Explanatory Notes relating to new subsection 127.47(7) applicable to tiered partnerships contemplates that a general partner can be allocated CCUS ITCs that arise from qualifying expenditures financed with money borrowed by the limited partnership.

Tax Shelters and Tax Shelter Investments

If any property used in a qualified CCUS project, or any interest in a person or partnership with a direct or indirect interest in any property used in the qualified CCUS project, is a “tax shelter investment” for the purpose of section 143.2, the CCUS ITC is denied in respect the project. This can be contrasted with the analogous rule in the context of the CT ITC which would deny the CT ITC in respect of a particular property if the property were a tax shelter investment but would not deny the CT ITC in respect of otherwise eligible properties in the project.

Note that all investments that are “tax shelters” as defined in section 237.1 are included within the definition of “tax shelter investment”.

Recovery Tax

As described above, the amount of a taxpayer’s eligible expenditure included in Qualified Carbon Capture Expenditures or Qualified Carbon Transportation Expenditures takes into account the projected eligible use percentage for each project period that includes or begins after the time of the expenditure. In the simplest case, where expenditures are made before commercial operations or in the first project period and 100% eligible use is projected for all project periods, the full amount of the relevant expenditures will be Qualified Carbon Capture Expenditures or Qualified Carbon Transportation Expenditures.

Bill C-59 will add Part XII.7 to the Tax Act to provide a tax to recover some or all of the CCUS ITC in certain circumstances where the “actual eligible use percentage” is less than the projected eligible use percentage. “Actual eligible use percentage” is the proportion, expressed as a percentage, that (i) the quantity of captured carbon that the CCUS project supported for storage or use in eligible uses during the period, is of (ii) the total quantity of captured carbon that the CCUS project supported for storage or use in both eligible uses and ineligible uses during the period. Actual eligible use percentage could be less than projected eligible use percentage, for example, where a taxpayer that projected 100% eligible use begins to use some of the captured carbon in enhanced oil recovery.

As discussed below, in general terms, once a CCUS project begins commercial operations, an annual report (Eligible Use Report) must be filed a taxpayer who deducted a CCUS ITC in respect of the project stating (i) the actual amount of carbon captured during the calendar year for storage or use in eligible uses; and (ii) the total quantity of captured carbon during that calendar year that supported storage or use in both eligible uses and ineligible uses. Until all required returns for calendar years in a project period are filed, the actual eligible use percentage for the project period in respect of the CCUS project is deemed to be nil.

The recovery tax rules are complex and only a high level summary is provided below. Special rules apply to partners of a partnership where expenditures of the partnership gave rise to CCUS ITCs of one or more partners.

In general, Part XII.7 provides for a tax (Recovery Tax) in 5 situations:

• If, in the taxation year that the qualified CCUS project begins commercial operations, or in any preceding year, the taxpayer’s “cumulative CCUS development tax credit” at the end of the particular year is less than the taxpayer’s “cumulative CCUS development tax credit” at the end of the year immediately before the particular year, a tax is payable under Part XII.7 equal to the difference. It is expected that this would arise if, after expenditures have been incurred but before commercial operation begins, the taxpayer’s project plan were revised to incorporate a lower projected eligible use percentage.
• At the end of each of the four project periods that comprise a qualified CCUS project’s total CCUS project review period, the projected eligible use percentage of the qualified CCUS project for the relevant project period must be compared with the actual eligible use percentage for the project period. If the projected eligible use percentage for the project period exceeds the actual eligible use percentage for the project period by more than 5%, each taxpayer that deducted a CCUS ITC in respect of the CCUS project must pay a tax for the taxation year that includes the last day of the project period under Part XII.7 (Development Credits Recovery Amount) equal to the amount by which the taxpayer’s cumulative CCUS development tax credit for the taxation year that included the first day of commercial operations exceeds the amount (Development Credits Recalculated Amount) that would have been the taxpayer’s cumulative CCUS development tax credit for that taxation year if the actual eligible use percentage for the particular project period had been used to calculate that amount instead of the projected eligible use percentage for the particular project period.
• As described above, a taxpayer’s CCUS refurbishment tax credit for a taxation year captures qualified CCUS expenditures incurred after the first day of commercial operations and in the total CCUS project review period. If the projected eligible use percentage for a project period of a qualified CCUS project exceeds the actual eligible use percentage for the project period by more than 5%, an analogous calculation to that described above in relation to the cumulative CCUS development tax credit is made to determine the amount of the applicable difference in the taxpayer’s CCUS refurbishment tax credit (Refurbishment Credits Recalculated Amount) and applicable amount of Part XII.7 tax (Refurbishment Credits Recovery Amount) for each taxpayer that deducted a CCUS ITC in respect of the CCUS project.
• In order for a CCUS project to be a qualified CCUS project, its projected eligible use percentage must generally be at least 10% throughout its total CCUS project review period. If the actual eligible use percentage of the CCUS project falls below 10% for a calendar year (subject to a special rule applicable to a project that begins commercial operations after September in a calendar year) included in the CCUS project’s total CCUS project review period, the actual eligible use percentage for the project period that includes such calendar year (Trigger Period) and for each subsequent project period is deemed to be nil. For the purposes of calculating the Development Credits Recovery Amount and Refurbishment Credits Recovery Amount, the Development Credits Recalculated Amount and Refurbishment Credits Recalculated Amount are determined as if the projected eligible use percentage were nil for the Trigger Period and each subsequent project period. Thus, if the actual eligible use percentage of the CCUS project were to fall below 10% in the first project period, 100% of the taxpayer’s CCUS ITCs claimed in respect of the project would be repayable as Recovery Tax.
• Tax under Part XII.7 may also be payable if the taxpayer disposes of or exports from Canada property the acquisition of which gave rise to, or which would otherwise have given rise to, a CCUS development tax credit or CCUS refurbishment tax credit. See below under the heading “Disposition or Export of Property”.

A discretionary relieving rule may apply if the actual eligible use percentage for a qualified CCUS project during a project period is significantly reduced due to extraordinary circumstances, for bona fide reasons outside the control of the taxpayer and of each person or partnership that does not deal at arm's length with the taxpayer. The taxpayer must apply for relief in writing to the Minister of National Revenue on or before the taxpayer's filing-due date for the year and relief may be granted if the Minister is satisfied that the taxpayer has taken all reasonable steps to attempt to rectify the extraordinary circumstances, and that it is appropriate to grant relief, having regard to all the circumstances. If granted, no Development Credits Recovery Amount or Refurbishment Credits Recovery Amount will be payable by the taxpayer in respect of the project period if the extraordinary circumstances apply to all or substantially all of the project period or, if that threshold is not met, the portion of the project period during which the project is affected by extraordinary circumstances is disregarded for the purpose of calculating the actual eligible use percentage for the project period.

A relieving rule also applies in the case of a project that is shut down for all or part of a relevant project period. If the project is inoperative for all or substantially all of the period, no Development Credits Recovery Amount or Refurbishment Credits Recovery Amount is payable by the taxpayer in respect of that project period. Otherwise, for the purpose of calculating the actual eligible use percentage for the project period, the portion of the project period during which the project is inoperative is disregarded.

Disposition or Export of Property

If a taxpayer disposes of or exports from Canada, in a particular taxation year, a property for which the taxpayer’s qualified CCUS expenditure resulted in the determination of a cumulative CCUS development tax credit for a previous taxation year or would otherwise have resulted in a cumulative CCUS development tax credit for the particular taxation year, the relevant credit may be denied or recovered:

• If the disposition or export occurs before the total CCUS project review period (i.e., before the first day of commercial operations taking into account the 120-day buffer period) the taxpayer’s expenditure in respect of the property is deemed not to be a qualified CCUS expenditure for the purpose of determining the taxpayer’s cumulative CCUS development tax credit for the particular year and any subsequent taxation years. If the disposition or export occurs in the same year that the expenditure is made, the expenditure will not be taken into account in computing the taxpayer’s cumulative CCUS development tax credit for the particular year. If the expenditure was incurred in a prior year, the taxpayer’s cumulative CCUS development tax credit for the current year will be reduced which may result in the balance being less than that at the end of the preceding year giving rise to Part XII.7 tax equal to the excess.
• If the disposition or export occurs during the total CCUS project review period and the proceeds of disposition, in the case of an arm’s length disposition, or fair market value of the property, in the case of an export or non-arm’s length disposition, equal or exceed the capital cost of the property, the tax payable under Part XII.7 will be equal to the original CCUS ITC in respect of the property. In any other case, the tax will be a prorated portion of the original CCUS ITC. In each case, the tax payable is reduced by any Development Credits Recovery Amount in respect of the property.

If, during the total project review period of a CCUS project, a taxpayer disposes of or exports property for which the taxpayer’s qualified CCUS expenditure was included in computing the taxpayer’s CCUS refurbishment tax credit, an analogous calculation of tax payable under Part XII.7 is made.

Where a qualifying taxpayer (vendor) disposes of all or substantially all of its property that is part of a qualified CCUS project to another taxable Canadian corporation (purchaser), the vendor and purchaser may jointly elect in prescribed form to have subsection 211.92(11) apply. If such election is made, the taxes described above applicable to a disposition do not apply. Instead, the purchaser effectively steps into the shoes of the vendor:

• the purchaser is deemed to have made the qualifying expenditures of the vendor at the times incurred by the vendor;
• the provisions of the Tax Act that applied to the vendor in respect of the property that are relevant to the application of the Tax Act in respect of the property after that time are deemed to have applied to the purchaser and, for greater certainty, the purchaser is deemed to have claimed the CCUS ITCs that could have been claimed by the vendor, before that time, in respect of the CCUS project;
• any project plans that were prepared or filed by the vendor in respect of the CCUS project before that time are deemed to have been filed by the purchaser; and
• the purchaser is or will be liable for amounts in respect of the property for which the vendor would be liable under Part XII.7 in respect of actions, transactions or events that occur after that time as if the vendor had undertaken them or otherwise participated in them.

The election can be made whether or not vendor and purchaser deal at arm’s length.

Payment and Collection of Recovery Tax

Section 225.1 generally establishes the time at which the CRA may begin collection action for amounts assessed under the Tax Act.

Section 225.1 will be amended to provide that the CRA can start collection proceedings to recover 1/5 of the Recovery Tax for a taxation year one year after the notice of assessment is sent and an additional 1/5 of the Recovery Tax in each of the four years thereafter. Effectively, the Recovery Tax can be paid over 5 years following the date that the notice of assessment is sent.

However, for the purpose of computing interest on the Recovery Tax, the balance-due day in respect of a recovery taxation year is deemed to be the balance due day of the taxation year for which the related CCUS ITC was claimed, creating a liability for interest computed from the taxation year for which the CCUS ITC was claimed.

Disclosure and Knowledge Sharing Reporting Requirements

Eligible Use Reports

The annual Eligible Use Report is described above. It must be made in prescribed form and included with the taxpayer’s tax return. As noted, until all required returns for calendar years in a project period are filed, the actual eligible use percentage for the project period in respect of the CCUS project is deemed to be nil for the purpose of computing the Recovery Tax.

Knowledge Sharing Reports

Knowledge sharing reports are required in respect of large CCUS projects.

A “knowledge sharing CCUS project” is a qualified CCUS project that either is expected to incur qualified CCUS expenditures of $250 million or more based on the most recent project evaluation issued by NR Can or has actually incurred $250 million or more of qualified CCUS expenditures before the first day of commercial operations.

A taxpayer is a “knowledge sharing taxpayer” if the taxpayer claimed a CCUS ITC for a taxation year ending before the “project start-up date “ of a knowledge sharing CCUS project.

The “project start-up date” is the day that is 120 days before the first day of commercial operations i.e., the date commercial operations actually begin determined without regard to the 120-day buffer period.

All knowledge sharing taxpayers must submit to NR Can “knowledge sharing reports” which consist of:

• five annual operations knowledge sharing reports containing information set out by NR Can in the form annexed to NR Can’s CCUS-ITC Technical Guidance Document. If the project start-up date is before October 1 of a calendar year, the first report is due June 30 of the following year and the second through fifth reports are due on June 30 of the year following the year to which they relate. If the project start-up date is after September 30 of a calendar year, the first report is due June 30 of the second following calendar year and the second through fifth reports are due on June 30 of the year following the year to which they relate; and
• a construction and completion knowledge sharing report containing the information described in NR Can’s CCUS-ITC Technical Guidance Document which is to be filed once not later than the last day of the sixth month beginning after the project start-up date.

NR Can is required to publish knowledge sharing reports on its website.

It is possible that more than one knowledge sharing taxpayer is required to submit a knowledge sharing report in respect of a particular knowledge sharing CCUS project. In that case, a shared filing rule provides that the submission of a full and accurate disclosure by one knowledge sharing taxpayer is deemed to have been made by each other such knowledge sharing taxpayer.

Climate Risk Disclosure Reports

A knowledge sharing taxpayer must make a “climate risk disclosure report” available to the public annually unless it is an “exempt corporation”. The definition of “exempt corporation” is intended to exclude corporations that are not involved in any large CCUS projects from the requirement to make a climate risk disclosure report available. A corporation is an exempt corporation at a particular time if it does not have an ownership interest, whether directly or indirectly, in any qualified CCUS project that has incurred expenditures, or is expected to incur expenditures (based on the most recent project evaluation issued by NR Can), of $20 million or more.

An annual climate risk disclosure report must cover the relevant reporting taxation year. The reporting taxation years are (i) the first taxation year of a taxpayer in which a CCUS ITC was deducted in respect of a CCUS project of the taxpayer; and (ii) each subsequent taxation year until the end of the 20 year period beginning on the first day of commercial operations of the CCUS project. The report is due 9 months after the day on which the reporting taxation year ends.

A climate risk disclosure report must include information regarding the climate-related risks and opportunities for the knowledge sharing taxpayer based on four themes:

• the taxpayer’s governance in respect of climate-related risks and opportunities;
• actual and potential impacts of climate-related risks and opportunities on the taxpayer’s business, strategy and financial planning, if such information is material;
• the processes used by the corporation to identify, assess and manage climate related risks; and
• the metrics and targets used by the corporation to assess and manage relevant climate-related risks and opportunities.

In addition, it must explain how the corporation's governance, strategies, policies and practices contribute to achieving Canada's commitments under the Paris Agreement made on December 12, 2015, and Canada’s goal of net-zero emissions by 2050.

A climate risk disclosure report must be made available to the public in prescribed manner. A report is deemed to have been made public in a prescribed manner if it includes the date it was published and is made publicly available on the website of the knowledge sharing taxpayer or a related person for a period of at least three years after the reporting-due day for the report.

There is no shared filing rule applicable to climate risk disclosure reports.

Consequences of Failing to Meet the Disclosure and Knowledge Sharing Requirements

A knowledge sharing taxpayer that fails to meet the applicable disclosure and knowledge sharing requirements will be subject to the following substantial financial consequences:

• In the case of failing to provide to NR Can a knowledge sharing report in respect of a reporting period, a penalty in the amount of $2 million payable the day after the reporting-due day.
• In the case of failing to make available to the public a climate risk disclosure report required in respect of a reporting taxation year, a penalty in the amount equal to the lesser of (a) 4% of the total amount of CCUS ITC deducted by the taxpayer in respect of each taxation year that ended before the reporting-due day for the reporting taxation year for which the report was not made publicly available as required, and (b) $1 million.

Extended Record Keeping Requirement

Each person required to keep books and records on behalf of a taxpayer under section 230 is required to retain all books and records referred to in that section as are necessary to verify information regarding the taxpayer’s CCUS ITC or any amount of recovery tax payable by the taxpayer until the later of (i) 6 years from the end of the last taxation year to which the books and records relate, and (b) 26 years from the end of the taxpayer’s last taxation year for which an amount on account of the taxpayer’s cumulative CCUS development tax credit was deemed to have been paid.