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Ottawa, June 27, 1996

New Tax Measures for Renewables and Energy Conservation

Backgrounders:

• Canadian Renewable and Conservation Expense.
• Amendments to Class 43.1.

OTTAWA -- The Honourable Paul Martin, Minister of Finance, and The Honourable Anne McLellan, federal Minister of Natural Resources Canada (NRCan), today released a discussion paper on the implementation of a new tax measure announced in the 1996 Federal Budget in relation to Canadian Renewable and Conservation Expenses, also called CRCE.

The discussion paper suggests a framework to determine expenses that will be eligible under the new CRCE category, and provides an illustrative application of this framework to typical renewable energy and energy efficiency projects.

"We are seeking input from stakeholders and interested Canadians to assist the government with the definition of the allowable expenses under the CRCE category," said Minister Martin. "Once a decision has been reached on the expenses, the government will introduce amendments to the Income Tax Act to create this new category. In the end, we expect that the new CRCE category will result in increased investment that in turn will create jobs, spur economic growth and provide environmental benefits for Canadians."

"Renewable energy and energy conservation are key components of the federal government's climate change and sustainable development priorities," Minister McLellan added. "This initiative will help level the playing field between energy investments. It will provide Canada's renewable energy sector with better access to capital which will in turn help the industry attain its potential for jobs and growth. In addition, new investment in renewable energy will expand domestic and international markets for wind, solar, small hydro and other renewable energy products and expertise."

The introduction of this new class of expenditure will help to place investment in the renewable and non-renewable energy sectors of the Canadian economy on a more equal footing, particularly through extending the benefits of flow-through shares to eligible renewable energy and energy conservation projects.

CRCE will be similar in concept to the Canadian exploration expense (CEE) category. These are generally described as intangible expenses incurred to determine the location, extent and quality of non-renewable resources. CEE is available to petroleum and mining companies and may be passed on to investors through flow through share agreements.

As with the CEE expenses, the renewable and conservation expenses that qualify as CRCE will also be an eligible expense for purposes of the flow through share provisions. Under these rules, purchasers of new equity will be allowed tax deductions for eligible expenditures. This will facilitate financing and encourage investment in companies undertaking renewable energy and energy conservation projects.

Since CRCE will provide similar tax treatment for eligible renewable and non-renewable energy sources, the discussion paper released today also includes a description of the CEE category, as well as Canadian development expense, capital cost allowance and flow through share provisions that are applicable to the mining and petroleum sectors.

Ministers Martin and McLellan also announced today two amendments to the application of the proposed capital cost allowance in Class 43.1. Class 43.1 will now include turbine spilling engines. In addition, used or reconditioned equipment will no longer be eligible for inclusion in this class. This latter change will ensure that the incentive provided by the tax system is targeted towards current energy efficient technology.

Officials in the Departments of Finance and Natural Resources will conduct the consultations during the next few months with stakeholders, including representatives from the renewable energy and energy conservation industries. Written comments on the paper will also be welcomed.

Backgrounders on the CRCE discussion paper and the changes to Class 43.1 are attached. Information on how to obtain a copy of the discussion papers is provided in the first backgrounder.

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For further information:

Backgrounder

Canadian Renewable and Conservation Expense

As part of the Federal Government's commitment to promoting sustainable development, the 1996 Federal Budget proposed a number of changes affecting renewable energy and energy conservation investments.

In particular, the Budget proposed to modify income tax arrangements to:

• introduce a category of Canadian renewable and conservation expense (CRCE) in respect of intangible costs similar to those expenses which may be renounced as Canadian exploration expense (CEE) and are associated with the development of projects, the equipment for which is eligible for Class 43.1 treatment;
• allow this new class of expenditures to be fully deductible and be carried forward indefinitely; and
• allow these expenditures to be renounced to shareholders who have entered into a flow through share (FTS) agreement.

These changes will be of benefit to investors in eligible projects because, under current arrangements, deductions for many intangible expenses are of limited value in situations where a company has not yet begun to produce income or is operating at a loss. By contrast, the proposed new class of expenditures will permit companies to either carry forward all eligible expenses indefinitely for later deduction, or pass on the deductions associated with these expenditures to investors through FTS agreements. It will also provide renewable energy and energy conservation projects with more rapid deductions for some expenditures which would otherwise be capitalised.

The existing FTS arrangements allow non-renewable energy companies to transfer income tax deductions for eligible expenditures to new investors. In this way FTS arrangements encourage exploration by playing a financial intermediary role in the raising of capital for resource exploration.

The proposed changes recognise that the renewable energy sector also needs to finance intangible costs such as feasibility studies to determine the location, extent and quality of renewable energy sources and certain pre-construction development expenses. The overall impact of these changes, along with certain 1996 budget tightening measures applied to FTS arrangements in the non-renewable sectors, will be to provide a more level playing field among competing energy investments. The introduction of the CRCE category and extension of FTS arrangements will also provide the renewable energy and energy conservation sector with improved access to new equity financing in the early stages of their operations when they may have little or no income to utilise the income tax deductions related to these expenses.

As indicated in the 1996 budget, the introduction of CRCE will take effect only after the definition of eligible costs has been developed in consultation with industry representatives.

The CRCE definition will ensure that costs in the renewable energy and energy conservation sector receive tax treatment similar to costs in the non-renewable energy sector. This discussion paper is intended to provide a framework for developing the definition of eligible costs for the new CRCE category.

To obtain copies of the discussion paper, or for further information on the definition of CRCE, please contact:

Amendments to Class 43.1

The 1994 Budget announced changes effectively terminating capital cost allowance Class 34 and including certain types of energy conservation equipment in Class 43 (now proposed Class 43.1, which provides a 30% capital cost allowance rate computed on a declining balance basis).

A range of renewable energy conversion and energy efficiency equipment is eligible for inclusion in proposed Class 43.1, such as certain cogeneration systems, small scale hydroelectric installations, wind energy conversion equipment, certain photovoltaic and active solar heating equipment, and equipment used in certain landfill gas applications.

The Two changes in the application of Class 43.1 are as follows:

First, turbine expanders or spilling engines used to generate electricity by making use of waste energy at natural gas pressure reducing stations will now be included. It is proposed that this will be achieved through the addition of the following subparagraph to paragraph (d) of proposed Class 43.1 of Schedule II to the Income Tax Regulations:^[1]

"(x) an expansion engine with one or more turbines, or cylinders, that convert the compression energy in pressurized natural gas to shaft power that generates electricity, including the related electrical generating equipment and ancillary controls, where the expansion engine

(A) is a part of a system that is installed

(I) on a distribution line of a distributor of natural gas, or

(II) on a branch distribution line of a taxpayer primarily engaged in manufacturing or processing goods for sale or lease if the branch line is used to deliver natural gas directly to the taxpayer's manufacturing or processing facility, and

(B) is used instead of a pressure reducing valve, and"

Second, in order to ensure that the incentive provided by the tax system is targeted towards current energy efficient technology, only new equipment will be eligible for this Class. Used, reconditioned or re-manufactured equipment will not be eligible. Transitional relief will be provided in respect of property acquired by a taxpayer before the date of this release, or before 1998 pursuant to an agreement in writing made by the taxpayer before the date of this release.

Equipment eligible for Class 43.1 is described in more detail in the CRCE discussion paper released today.

For further information on Class 43.1, please contact:

Endnote
^[1] Proposed paragraph (d) of Class 43.1 corresponds to formerly proposed paragraph (f) of Class 43 (see the explanatory note accompanying subsection 13 (18.1) of the Income Tax Act, as added by S.C. 1995, c. 3, subsection 4 (3) ).