by Peter Saba
The Energy Policy Act of 2005 contained three incentives that are poised to play key roles in financing new advanced nuclear power projects in the U.S.: standby support for certain nuclear plant delays; production tax credits; and loan guarantees for innovative technologies.
While significant progress has been made in implementing the standby support and production tax credits, much still needs to be done to achieve a workable loan guarantee program, arguably the most important of the financing incentives. The next six months will be critical to its successful implementation.
Standby support is in effect “delay in start-up” insurance, provided by the federal government and paid for by the project sponsor, to cover licensing risks during construction. Section 638 of EPAct 2005 authorized the Secretary of Energy to enter into standby support contracts with sponsors of an advanced nuclear facility, covering a total of six reactors. These contracts provide risk insurance that will cover certain costs if regulatory or litigation events delay the start of full power operation. The purpose of the program is to mitigate the risks to sponsors and lenders of the untested combined construction and operating license (COL) process and thereby facilitate the construction and operation of new advanced nuclear facilities.
Principal and interest on the project’s debt obligations and the incremental costs that a project would incur to purchase power to meet its contractual supply agreements are covered, limited to $500 million for the first two reactors that receive a COL and on which construction is commenced, and $250 million for the subsequent four reactors. Coverage is provided for 100 percent of the eligible delay costs without a waiting period for the first two reactors, but only 50 percent of eligible delay costs incurred after a 180-day waiting period for the subsequent four reactors. Basically, this insurance is limited to covering debt service only.
To be eligible, new nuclear projects must utilize a reactor design that is approved by the Nuclear Regulatory Commission after Dec. 31, 1993.The Secretary of Energy cannot enter into standby support contracts for more than three different designs. The delay risks covered under these contracts are the failure of the NRC to comply with schedules for review and approval of inspections, tests, analyses and acceptance criteria established under the COL; the conduct of preoperational hearings by the NRC; and litigation that delays commencement of full power operation.
In August 2006, the DOE issued final regulations for the standby support program. Sponsors who have applied to the NRC for a COL and had their application docketed are eligible to enter into a Conditional Agreement with the DOE that sets forth the conditions that must be satisfied prior to entering into a Standby Support Contract. The first six sponsors who receive a COL and commence construction, defined as the pouring of safety-related concrete for the reactor building, become eligible to enter into the Standby Support Contract upon meeting the other conditions precedent and payment of the insurance cost. Only after standardized agreements have been developed and the cost to the sponsor established will it be clear to sponsors and lenders whether this program can achieve its purpose of facilitating investment in the construction of advanced nuclear facilities by reducing certain regulatory and litigation risks.
Production tax credit
The production tax credit enhances the economics of new nuclear power projects. EPAct 2005 added a new Section 45J to the Internal Revenue Code that provides a credit equal to 1.8 cents/kWhrs for electricity produced at an advanced nuclear power facility during the first eight years it’s in service. To be eligible, the advance nuclear power facility must be placed in service after Aug. 8, 2005, and before Jan. 1, 2021. This production tax credit is subject to certain limitations and phase-outs, including a national limitation of 6,000 MW.
The IRS issued interim guidance for the Section 45J production tax credit specifying the method that will be used to allocate the 6,000 MW national capacity limitation and the process for applying for an allocation. Under this interim guidance, the 6,000 MW will be allocated in proportion to the nameplate capacity of those applicants who have filed a COL application on or before Dec. 31, 2008 (or such later date on which COL applications with the NRC first equal or exceed 6,000 megawatts), and have commenced construction before Jan. 1, 2014.
Loan guarantee program
Of the incentives in EPact 2005, potentially the most important from the perspective of financing a new generation of nuclear power plants in the U.S. is the Title XVII Loan Guarantee Program. While this loan guarantee program is not limited to advanced nuclear technologies, it may be the key factor in determining whether or how many new nuclear power plants will be built in the U.S. For non-regulated generation companies that are planning new nuclear power plants for baseload generation, the program will be essential to their ability to obtain financing. For regulated utilities planning to build new nuclear plants in the rate base, the loan guarantee program may also be a necessary financing tool. To achieve a nuclear renaissance in the U.S., it is critical that the DOE implement a workable and effective loan guarantee program.
Title XVII of EPACT 2005 authorized the Secretary of Energy to establish a loan guarantee program for innovative technologies, including advanced nuclear energy facilities. To be eligible, projects must avoid, reduce, or sequester air pollutants or greenhouse gases, and employ new or significantly improved technologies as compared to commercial technologies that are in general use. Guarantees of principal and interest issued under the program carry the full faith and credit of the U.S. The cost of the loan guarantee is expected to be paid by the project sponsor.
In August 2006, the DOE issued an initial solicitation and policy guidelines for a total of up to $2 billion in federal loan guarantees for innovative technology projects. Excluding nuclear power projects for the first round, the DOE indicated that they planned to adopt final regulations and issue additional solicitations covering the full range of projects eligible under Title XVII. The initial DOE guidelines contain a number of restrictive provisions that seriously limit the viability of the loan guarantee program, including limiting the loan guarantee coverage to 80 percent as compared to 100 percent of the project debt, requiring the unguaranteed portion of the debt to be deeply subordinated, and requiring that any syndication or secondary market sales of the debt be pro-rata.
Congress has authorized loan guarantees to support up to $4 billion of project debt in the current fiscal year, and the president’s budget for the next fiscal year proposes to increase this to $9 billion. The DOE is developing final regulations that are required to be in place by Aug. 15, 2007. If these final regulations mirror the August 2006 guidelines, it is highly questionable whether the loan guarantee program will support the financing of new nuclear power projects. The nuclear industry has proposed that the DOE take an alternative approach focused on utilizing risk-based evaluation criteria that reflect the standard approach to credit analysis in the world of project finance.
More than 18 months has passed since EPAct was enacted into law. It is vital that implementation of these incentives be finalized in a workable and effective manner so that the nuclear industry and the financial community can proceed with their plans for the next generation of nuclear power.
Peter Saba is of counsel with Paul Hastings Janofsky and Walker, LLP, and is a member of their global projects group in the Washington, D.C. office. He represents clients in the development and financing of domestic and international projects, primarily in the energy area, and has been actively involved in the development of new nuclear projects and the implementation of the Energy Policy Act of 2005 incentives. He is a former deputy principal assistant secretary of the Department of Energy.