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New financing mechanisms for renewable energy.


New approaches to rural ownership aim to address the limitations of the traditional methods of equity financing. The five mechanisms listed here offer greater flexibility to potential investors. Moreover, they are more adaptable to alternative strategies for ownership, including minority positions in production, or equity in ancillary industries along the supply and marketing chains.

Rural Business Investment Program

Congress established the Rural Business Investment Program (RBIP) in the 2002 Farm Bill to promote economic development and generate income and job opportunities in rural regions by encouraging venture capital investments in smaller enterprises and by meeting the equity capital needs of such businesses. RBIP is funded through USDA's Commodity Credit Corporation.

The program licenses Rural Business Investment Companies (RBIC) through a competitive process. It allows for a 3-to-1 leverage of private capital through the use of federally guaranteed discounted debentures.

For every dollar of private capital raised by a licensed RBIC, the RBIC can leverage three borrowed dollars, which USDA guarantees. The debentures are discounted because five years of interest is deducted on a pre-paid basis, enabling the net proceeds to be invested as equity (because there is no need to generate current income to service interest payments).

Flip Model

The ownership flip structure was originally developed in Minnesota to help an individual farmer to finance a utility-scale wind turbine. Such projects require a large amount of investment capital, but the average rural landowner lacks a sufficient tax liability to fully capture the related federal tax benefits, including both the Production Tax Credit (PTC) and accelerated depreciation. It is thus unlikely that most individuals could develop such a project on their own.

Passive loss restrictions and at-risk rules further contribute to the difficulty in individuals fully capturing the full value of these tax benefits. Some farmers have overcome this problem by partnering with outside, tax-motivated equity investors.

Through such a co-ownership arrangement, the farmer will have the needed capital and the outside investors will be able to fully capture all the tax advantages. The partners have typically organized their wind project as a limited liability company (LLC) because of its comparative advantages over other forms of business organization.

The outside investor will control the majority of the LLC, while the farmer has a minority ownership. After the Federal Protection Tax Credit (PTC) for Renewable Energy and depreciation are fully used by the outside investor, the ownership will flip to the farmer, who then becomes the majority investor, while the outside investor owns a minority stake in the LLC.

The LLC form of business allows these partners to use a tax structure favorable to taking advantage of the production tax credits. It also allows the financial and governance rights for the project to be split among the landowners, developer and the equity investor.

Lease/Custom Harvest Structures

Ethanol is currently produced mostly from sugars or starches derived from fruits and grains. In contrast, cellulosic ethanol is obtained from cellulose, the main component of wood, straw and most plants. Since cellulose cannot be digested by humans, the production of cellulose does not compete with the productions of food. Additionally, since cellulose is the main component of plants, the entire plant can be harvested. The raw material is plentiful. Cellulose is present in every plant: straw, grass, wood. Most of these "bio-mass" products are currently discarded or reside on cropland.

Although waste biomass will make a substantial contribution towards large-scale cellulosic ethanol production, waste biomass alone cannot serve as the only source of raw material supply. The big question is whether American agricultural systems can support large-scale cellulosic ethanol production. Several studies indicate that it is possible.

According to the "Near Term U.S. Biomass Potential" report, dedicated energy crops would be required for large-scale ethanol production from cellulosic biomass. There are regions within the United States where cellulosic biomass, such as switchgrass, can be produced to support large-scale facilities. Landowners and ag producers within these regions will have the opportunity to participate and to take ownership of the cellulosic ethanol market.

For landowners with limited ag production experience and/or financial resources, lease or custom harvest structures can be used to generate equity capital. The landowner would lease land to an ag-producer to grow cellulose crops or hire a custom harvester to harvest the crops. Revenues from the rental payments can be used to finance a cellulosic ethanol facility.

For the custom harvest, the landowner would hire those with special equipment to harvest the switchgrass or clean up the field of wheat straw or corn stover. In the case of forest land, the landowner would hire someone to thin the wood on CRP land. This model can be used to promote participation from Native American tribes, low-income rural communities, and Conservation Reserve Program (CRP) participants.

Renewable Energy Fund

The creation of a Renewable Energy Fund would eliminate the need for multiple equity drives and address the equity barrier for rural investors. Pooling equity capital within rural communities will ensure that rural residents own a share of cellulosic ethanol production capacity in the future. Investment would be limited to individual farmers, legal entities that own or manage family farms and other individual investors living in rural areas. There is about $26.8 billion of farm and non-farm income available for investment within rural communities.

The cost of establishing an investment fund can vary, depending on how the fund is set up. The least expensive approach would be to establish an equity fund. However, there are several factors which make this approach somewhat problematic.

If the fund is going to be a public offering, or at least catered to a general audience, the cost could be substantial. For example, cost for a direct public offering would include legal, auditing and filing fees as well as printing, advertising, strategic coordination, and marketing. These fees and expenses can be as high as 8 percent of total estimated offering.

Clean Renewable Energy Bonds (CREB)

The Federal Production Tax Credit (PTC) has been the major method of financing for renewable energy projects since it was established in the early 1990s. The PTC, however, was designed to benefit larger investor-owned utilities and to attract their capital into the renewable energy marketplace. Non-profit electric utilities provide about 25 percent of the nation's electricity. Their tax-exempt status makes them ineligible for the PTC.

The National Rural Electric Cooperative Association (NRECA) proposed that a "clean energy bond" be created to establish an incentive for nonprofit electric utilities that comparable in scope to the PTC. The CREB program was modeled after the Qualified Zone Academy Bond program, enacted in 1998 to provide tax incentives for the rehabilitation of public school buildings.

The Clean Renewable Energy Bond (CREB) program is a new tax incentive authorized in the Energy Policy Act of 2005. It is currently available to municipal utilities and rural electric cooperatives and is designed to promote renewable energy investment and development. The CREB program provides these nonprofit utilities with interest-free loans for financing qualified renewable energy projects.
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Publication:Rural Cooperatives
Date:Jan 1, 2009
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