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Not only can purchasing tax credits help buyers reduce their liabilities in their current tax year, but they can also help reduce their tax liabilities from previous tax years.
Once buyers of tax credits have purchased enough transferable tax credits for their current tax year, they can consider buying credits that can be carried back to prior tax years with a carryback.
Let’s start with a basic example.
Z Corp purchases tax credits for $10M for a project that was placed in service in 2024. Unfortunately, Z Corp can only use $7M of the credits for 2024. That leaves $3M in credits that Z Corp can carry back to prior years. The credits can be carried back three years.
Intuitively, you might think they would carry the credit back first to 2023. Unfortunately, tax rules aren’t always intuitive. Instead, Z Corp needs to first carry it back three years to 2021.
So, let’s say Z Corp could use $250,000 to offset Z Corp’s tax liability in 2021. That leaves $2,750,000 that can still be used.
The $2,750,000 is then carried to 2022. Let’s say Z Corp could use $1,250,000 to offset Z Corps tax liability in 2022. That leaves $1,500,000 that can still be used.
The $1,500,000 is then carried to 2023. Let’s say Z Corp could use $1,200,000 to offset Z Corps tax liability in 2023. That leaves $300,000 that can still be used.
The $300,000 is available to be carried forward to 2025 and can be carried forward each year until it is used up.
In summary, the rule is that you need to go back first by three years before you can go forward.
Of course, no set of tax rules would be complete without exceptions. Here are a few to note.
First, the three-year carryback rule only applies to projects placed in service after 2022. If the tax credits relate to tax credits placed in service before 2022, they can only be carried back one year. So, for example, if Z Corp purchased a 2024 production tax credit from a project that was placed in service in 2021, the tax credit could only be carried back to 2023.
Second, you cannot carry back a credit to a year before the year in which the tax credit was allowable. So, Z Corp will want to make sure that the credit that was purchased was allowable in a year that Z Corp might want to carry it back to. For example, you can't carryback a new credit type such as 45x because the 45X credit type didn't exist in 2022.
Third, if you want to purchase tax credits from a prior year, you still can! The only limitation is that it has to be applied to that prior year’s tax liability. This also means both parties will have to re-file their taxes for the year in which they are applied.
These are simple examples and you should always consult with your tax advisor before purchasing tax credits and discuss with them how the carryback rules might apply to you or your organization.
