The Internal Revenue Service (IRS) recently issued Notice 2025-42, providing critical guidance on the "beginning of construction" (BoC) requirements for applicable wind and solar facilities. This notice is a direct response to the termination provisions for clean electricity production credits (§ 45Y) and clean electricity investment credits (§ 48E) introduced by the One, Big, Beautiful Bill Act (OBBBA), Public Law 119-21, and the directives of Executive Order 14315. This article will detail the scope of this ruling, the IRS’s interpretation and application of the law, and the key conclusions affecting tax professionals advising clients in the clean energy sector.

Background of Clean Electricity Credits (Pre-OBBBA)

Prior to the OBBBA, §§ 45Y and 48E were established under the Inflation Reduction Act of 2022 (Public Law 117-169). The § 45Y credit applies to electricity produced by a "qualified facility" and sold to an unrelated party, or in certain cases, consumed or stored by the taxpayer. The § 48E credit is determined based on a taxpayer’s "qualified investment" in a qualified facility, encompassing the basis in qualified property and expenditures for qualified interconnection property.

For both credits, a "qualified facility" must generate electricity, be placed in service after December 31, 2024, and have a greenhouse gas emissions rate not greater than zero. Final regulations under §§ 45Y and 48E, published on January 15, 2025, further clarify this definition. Notably, wind and solar facilities are explicitly listed as having a greenhouse gas emissions rate of not greater than zero.

Before the OBBBA, the IRS had established methods for determining the beginning of construction through various notices (the "IRS Notices," including Notice 2022-61). These generally permitted taxpayers to satisfy the BoC requirement using either the "Physical Work Test" or the "Five Percent Safe Harbor," along with a "Continuity Requirement" or "Continuity Safe Harbor". For §§ 45Y and 48E, Notice 2022-61 indicated that similar principles applied, allowing reliance on the Continuity Safe Harbor if a facility was placed in service within four calendar years after construction began.

Impact of the One, Big, Beautiful Bill Act (OBBBA)

Sections 70512(a) and 70513(a) of the OBBBA introduced new Code provisions, §§ 45Y(d)(4) and 48E(e)(4), that terminate the clean electricity production and investment credits for "applicable wind facilities" and "applicable solar facilities" placed in service after December 31, 2027 (the "credit termination date"). Crucially, these termination provisions apply to facilities for which construction begins after July 4, 2026, which is 12 months after the OBBBA’s enactment date.

Executive Mandate and Policy Shift

Notice 2025-42 is issued consistent with Executive Order 14315 of July 7, 2025. This Executive Order directed the Secretary of the Treasury to take necessary actions within 45 days of the OBBBA’s enactment to strictly enforce these termination provisions. The mandate specifically calls for new and revised guidance to ensure that "beginning of construction" policies are not circumvented, including measures to prevent the artificial acceleration or manipulation of eligibility and to restrict the use of broad safe harbors unless a substantial portion of a facility has been built.

The Treasury Department and the IRS have determined that this guidance is essential to properly enforce the credit termination date and to prevent taxpayers from circumventing the statutory deadline and artificially manipulating eligibility. As a direct consequence, the Five Percent Safe Harbor, previously available under the IRS Notices, is generally no longer available for determining whether an applicable wind or solar facility has met the beginning of construction deadline and is thus not subject to the credit termination date, with a significant exception detailed below.

Revised Beginning of Construction Standard

For purposes of the OBBBA’s beginning of construction deadline (July 5, 2026), a taxpayer must now satisfy the Physical Work Test as the sole method for establishing that construction has begun, except for specific low output solar facilities.

The Physical Work Test: Construction is considered to have begun when physical work of a significant nature commences. This includes work performed by the taxpayer or by others under a binding written contract executed prior to the manufacture, construction, or production of the facility. The determination of whether physical work is of a significant nature depends on the relevant facts and circumstances, focusing on the nature of the work performed, not its amount or cost. There is no fixed minimum amount, monetary, or percentage threshold. Both off-site and on-site physical work may be taken into account.
- Off-site physical work of a significant nature generally includes the manufacture of components such as mounting equipment, support structures (racks and rails), inverters, transformers (stepping up voltage to less than 69 kilovolts), and other power conditioning equipment.
- On-site physical work of a significant nature examples include:
  - For an applicable wind facility: Excavation for the foundation, setting anchor bolts, or pouring concrete pads. If components are assembled on-site but manufactured off-site by a third party, the off-site manufacturing begins physical work only if it is pursuant to a binding written contract and the components are not held in the manufacturer’s inventory. A reasonable method must be used to associate components with specific facilities if a manufacturer produces for multiple projects.
  - For an applicable solar facility: Installation of racks or other structures to affix photovoltaic (PV) panels, collectors, or solar cells.
Exclusions from Physical Work: Importantly, preliminary activities do not constitute physical work of a significant nature, even if their cost is properly included in the depreciable basis of the facility. These activities include, but are not limited to:
- Planning or designing.
- Securing financing, exploring, researching, conducting mapping and modeling.
- Obtaining permits and licenses.
- Conducting surveys (geophysical, gravity, magnetic, seismic, resistivity).
- Performing environmental and engineering studies.
- Clearing a site.
- Conducting test drilling to determine soil conditions.
- Excavating to change the contour of the land (distinguished from excavation for a foundation).
- Removing existing foundations, turbines, towers, solar panels, or other components that will not be part of the new facility.
Inventory Exclusion: Work to produce components or parts that are in existing inventory or are normally held in inventory by a seller does not count as physical work of a significant nature.

The Continuity Requirement

In addition to the Physical Work Test, a taxpayer must maintain a continuous program of construction for the applicable wind or solar facility. This involves continuing physical work of a significant nature. Whether this requirement is met is determined by the relevant facts and circumstances, unless the Continuity Safe Harbor applies.

Excusable Disruptions: The IRS acknowledges that certain disruptions beyond the taxpayer’s control will not be considered a failure to satisfy the Continuity Requirement. This non-exclusive list includes:
- Delays due to severe weather conditions or natural disasters.
- Delays in obtaining permits or licenses from government entities (federal, state, local, or Indian tribal), including FERC, EPA, BLM, and FAA.
- Delays at the written request of a government entity regarding public safety, security, or similar concerns.
- Interconnection-related delays, such as those for new transmission lines or grid upgrades.
- Delays in manufacturing custom components.
- Labor stoppages.
- Delays due to inability to obtain specialized equipment of limited availability.
- Delays due to the presence of endangered species.
- Financing delays.
- Delays due to supply shortages.
- For a single project comprised of multiple facilities, the determination of an excusable disruption is made in the calendar year the last facility is placed in service. For a single facility, it is determined in the calendar year that facility is placed in service.
The Continuity Safe Harbor: A taxpayer will be considered to satisfy the Continuity Requirement if the applicable wind or solar facility is placed in service by the end of a calendar year that is no more than four calendar years after the calendar year during which construction began. For example, if construction begins on August 20, 2025, the facility must be placed in service by December 31, 2029, to meet this safe harbor. The excusable disruption rules do not apply for purposes of the Continuity Safe Harbor. If the facility is not placed in service within this four-year window, satisfaction of the Continuity Requirement reverts to a facts and circumstances determination.

Special Considerations and Nuances

Construction by Contract: When property is manufactured, constructed, or produced for the taxpayer by another person under a binding written contract, the work performed under that contract counts towards the Physical Work Test, provided the contract was entered into before the work took place. A contract is considered binding if it is enforceable under local law and does not limit damages to a specified amount. However, a contractual provision limiting damages to at least five percent of the total contract price is not treated as limiting damages for this purpose. Work performed under a "master contract" for components can count if the rights are assigned to an affiliated special purpose vehicle through a "project contract".
Single Project Rule: Solely for BoC determination, multiple facilities operated as part of a single project are treated as a single applicable wind or solar facility. Factors indicating a single project include common ownership, contiguous land, common power purchase agreements, common intertie or substation, common permits, a single master construction contract, and financing under the same loan agreement. This determination is made in the calendar year the last facility in the project is placed in service.
Integral Property: Only physical work of a significant nature on tangible personal property and other tangible property used as an integral part of the applicable wind or solar facility’s electricity production activity will be considered. This specifically excludes property used for electrical transmission.
80/20 Rule for Retrofitted Facilities: A retrofitted applicable wind or solar facility may qualify as originally placed in service if the fair market value of used components is not more than 20% of the facility’s total value (new components cost plus used components value). For single projects with multiple facilities, the 80/20 Rule applies to each facility. For such retrofits, the Physical Work Test applies only to the work performed on, or amounts paid or incurred for, new components used in the retrofit. The cost of land or other non-facility property is not included in the total cost for the 80/20 Rule calculation.
Transfer of an Applicable Wind or Solar Facility: Neither § 45Y nor § 48E requires the taxpayer to own the facility at the time construction began. Generally, a fully or partially developed facility can be transferred without losing its Physical Work Test qualification.
- Relocation by a taxpayer: If a taxpayer begins construction with intent to develop at one site, then transfers components to a different site, completes development, and places it in service, the prior work performed or amounts paid can count for the Physical Work Test.
- Transfers between unrelated parties: Work performed or amounts paid by a transferor regarding transferred property will not be taken into account by a transferee for the Physical Work Test if the parties are unrelated (as defined in §§ 197(f)(9)(C) and 1.197-2(h)(6)). For example, if Developer X pays for off-site manufacturing in 2025, but then sells the property to unrelated Developer Y in 2026, X’s work does not count for Y’s Physical Work Test, even if Y incorporates it into their facility. However, if Y independently satisfied the Physical Work Test in 2025, Y would be considered to have begun construction in 2025.

Exception for Low Output Solar Facilities

Notice 2025-42 provides a crucial exception for low output solar facilities.

Definition: A low output solar facility is an applicable solar facility with a maximum net output of not greater than 1.5 megawatt (MW), as measured in alternating current (AC). This output is measured at the level of the qualified facility, which includes all functionally interdependent components owned by the taxpayer that operate together to produce electricity, as well as integral property.
Reinstatement of Five Percent Safe Harbor: For these specific low output solar facilities, taxpayers may establish that construction began before July 5, 2026, by satisfying either the Physical Work Test or by applying principles similar to the Five Percent Safe Harbor as described in previous IRS guidance (e.g., Notice 2013-29).
Measurement of Output: The maximum net output is measured by the nameplate generating capacity (AC) of the unit of qualified facility, excluding integral components. While generally measured independently, the nameplate capacity of two or more applicable solar facilities with integrated operations is measured in the aggregate for the 1.5-MW Maximum.
- Nameplate Capacity: Defined as the maximum electrical generating output in megawatts that the unit is capable of producing on a steady state basis and during continuous operation under standard conditions, per manufacturer specifications and consistent with 40 CFR 96.202. International Standard Organization (ISO) conditions should be used if applicable.
- Direct Current (DC) to Alternating Current (AC) Conversion: For solar facilities generating in DC, a taxpayer determines the 1.5 MW (AC) threshold by using the lesser of:
  - The sum of the DC nameplate capacities within the facility, deemed the AC nameplate capacity; or
  - The nameplate capacity of the first component that inverts DC electricity into AC.
- Integrated Operations: Facilities are treated as having integrated operations if they are owned by the same or "related taxpayers," placed in service in the same taxable year, and transmit electricity through the same point of interconnection. If not grid-connected or delivering electricity behind a utility meter, they are integrated if they can support the same end user. "Related taxpayers" are defined as members of a group of trades or businesses under common control (§ 1.52-1(b)).

Effective Date

Notice 2025-42 is effective for applicable wind and solar facilities where construction did not begin (as determined under section 5 of Notice 2022-61) prior to September 2, 2025. This notice modifies Notice 2022-61, making its Section 5 generally inapplicable for determining BoC for the OBBBA deadlines, except as provided for low output solar facilities in Section 6 of Notice 2025-42.

Conclusion

Notice 2025-42 fundamentally alters the landscape for establishing the beginning of construction for wind and solar facilities aiming to qualify for §§ 45Y and 48E credits. Tax professionals must understand that the Physical Work Test is now the predominant and often sole method for demonstrating BoC to avoid credit termination for facilities placed in service after December 31, 2027, with the critical BoC deadline being July 4, 2026. The general elimination of the Five Percent Safe Harbor, coupled with detailed requirements for demonstrating "physical work of a significant nature" and maintaining "continuity of construction," demands meticulous record-keeping and a thorough understanding of project development timelines. The targeted exception for low output solar facilities (1.5 MW AC or less) that still permit the Five Percent Safe Harbor offers a vital planning consideration for smaller-scale projects. Adherence to these strict new guidelines is paramount for taxpayers seeking to secure these valuable clean energy incentives.

Prepared with assistance from NotebookLM.