Son of Black Liquor Money Starts Rolling In For U.S. Pulp Makers

Much to their amazement, U.S. pulp manufacturers are discovering that the Son of Black Liquor tax loophole is starting to pay off or will soon do so.

International Paper reversed its previous statements on the subject a few days ago, acknowledging that its gains could be "substantial" from the Cellulosic Biofuel Producer Credits program (commonly called Son of Black Liquor in conjunction with the pulp and paper industry). The country's largest pulp manufacturer scoffed early this year at the possibility of receiving any money from CBPC and said in July it did not foresee much benefit.

IP's most recent assessment was underscored by some of the first reports of 3rd Quarter earnings by smaller pulp makers. Temple-Inland, with less than one-fourth of IP’s pulp-making capacity, reported net gains of $83 million from Son of Black Liquor. Buckeye Technologies, with less than one-tenth of IP’s capacity, booked $51.3 million in after-tax profit from the program.

Those companies recorded Son of Black Liquor earnings and others are estimating 4th Quarter earnings because recent Internal Revenue Service guidance clarified how pulp makers can pay back Alternative Fuel Mixture (AFM) subsidies, the original black liquor tax credits, to cash in on the more lucrative Son of Black Liquor tax credits.

Both programs were established to encourage production of environmentally friendly fuels. But in the case of pulp mills, neither has what environmentalists call "additionality" -- that is, they had no favorable impact on the environment.

The federal government doled out, and is still doling out, billions of dollars to pulp and paper companies for doing in 2009 what they would have done anyway -- following the standard industry practice of burning black liquor, a pulp byproduct, to power their mills.

When CBPC started last year, pulp manufacturers did not bother to register for the program because the regulations indicated it was only for motor fuels and motor fuel additives. Even after the IRS issued a controversial ruling that made black liquor eligible for the program, industry analysts predicted that Congress would soon close the loophole.

But Congress went on its pre-election recess without taking up the issue or receiving a requested study of the loophole's impact. Meanwhile, pulp mills seem to be having no trouble getting IRS approval to participate in CBPC.

IP plans to carry forward at least some of Son of Black Liquor credits into future years, according to the company's CFO, Timothy Nicholls.

“If we see that there's a benefit there that we can realize, we'll try to time it, such that anything that we're giving back is timed close to when we would file an amended return and get the benefit from the cellulosic biofuel credit,” he said during the company’s recently quarterly earnings conference call.

“We're currently assessing where we are,” Nicholls said. "We can't quantify the potential benefit of the cellulosic tax credits at this time, but we think that, potentially, it could be significant.”

Temple-Inland didn’t have to repay any of its AFM credits to get the $83 million tax gain. It claimed Son of Black Liquor credits only on production from the 1st Quarter of 2009 when it was not participating in the AFM program. It has not indicated whether it would pay back any AFM money to receive additional Son of Black Liquor credits.

Related articles:

• How Democrats Helped Finance the Tea Party With Black Liquor: Congress' failure to stop the original black liquor tax credits or to shut off Son of Black Liquor has probably enriched a company whose owners are major financial backers of the Tea Party and of climate-change denial campaigns.
• U.S. Taxpayers' Black Liquor Tab Surpasses $30 Billion: Rather than closing off loopholes for black liquor, Congress has manipulated the loopholes as an excuse for spending even more taxpayer dollars.
• Congress and Paper Companies Covet 'Son of Black Liquor' Funds

Pulp Manufacturers Scratching Their Heads Over Son of Black Liquor Ruling

U.S. pulp makers are still trying to figure out exactly what the IRS’ recent “Son of Black Liquor” ruling means, but the largest one said yesterday it sees little if any gain.

“We don’t see a huge benefit for the company,” said Timothy Nicholls, CFO of International Paper, during the company’s quarterly earnings call. “When you layer in the consideration that we would have to return the credits that we filed for last year under the alternative fuel mixture tax credits [the original black liquor tax credits] and then accrue those benefits over some period of time, we don't see the rationale for making any kind of change from what we've previously done at this point.”

Others were a bit more optimistic but still uncertain about exactly how to interpret the ruling that became public earlier this month. (For details, see IRS Brings Son of Black Liquor Back From the Dead; Ruling May Be Worth Billions to U.S. Pulp Makers and Why Tax Credits for Black Liquor Don’t Add Up | IMHO.)

Here’s the explanation presented this week by Temple-Inland’s CFO, Randy Levy, during that company’s earnings call:

“We expect to be registered as a cellulosic biofuel producer during the third quarter. We have received $228 million in cash from alternative fuel mixture tax credits for the period from late March 2009 to year-end 2009.

“We may have the potential to ultimately receive up to an additional $130 million to $140 million of after-tax credits by selecting the cellulosic biofuel producer [Son of Black Liquor] credit, about $80 million to $85 million of which is attributable to the January 1 through late March period when we were not yet mixing and about $50 million to $55 million for the incremental credit between the alternative fuel mixture credit and the cellulosic biofuel credit for the balance of the year.

“However, in order to convert from the alternative fuel mixture tax credit to the cellulosic biofuel credits the cash we previously received would have to be returned plus interest. A key piece of information for us that is currently not available is whether both credits may be claimed in the same year on different volumes. Our objective is to maximize the present value of these credits. There is still a lot of uncertainty surrounding this issue.”

The biggest uncertainty is the process for obtaining the Son of Black Liquor credits, writes Robert Tita of Dow Jones Newswires. “The IRS says companies that received 50-cent credits can't collect a second, higher credit on the same black liquor. Companies, however, could return the money from the 50-cent credit and apply for the $1.01 credit instead.” However, he notes, “the $1.01 credit would be applied as a noncash offset to companies' cash expenses for federal income taxes. The 50-cent credits were distributed as cash subsidies.”

“Given the complexities of acquiring the larger credit, companies could conclude that the reward isn't worth the effort," Tita adds. "Pursuing the higher credit also could expose paper companies to further outrage from members of Congress who remain angry over the paper industry's use of a regulatory loophole to obtain the 50-cent credit.”

Congressional outrage didn’t carry much weight or have much impact on the paper industry last year. Various members of Congress expressed outrage in the spring of 2009 when they learned that U.S. paper companies makers were receiving tax credits for doing what manufacturers of kraft pulp around the world had been doing for decades – burning black liquor to power their mills. But Congress did nothing to close the loophole before the law expired on Dec. 31, enabling pulp and paper companies to rack up more than $8 billion in direct federal subsidies.

In fact, the IRS’ logic-defying June 28 ruling looks like a gift to Congress. The relevant law requires that a qualifying cellulosic biofuel “meets the registration requirements for fuels and fuel additives established by the Environmental Protection Agency”. Normal people, and many pulp manufacturers, interpreted that to mean that a biofuel must be registered by the EPA to receive the credits and that black liquor is therefore excluded because it can’t be used as a motor fuel.

But the IRS ruling exempts black liquor from the EPA requirement specifically because it is not a motor fuel or fuel additive. (That makes me wonder what would happen if someone, perhaps a Canadian pulp manufacturer, tried to register black liquor as a motor fuel. Would the EPA’s rejection close the Son of Black Liquor loophole?)

Congress’ “pay-for” rules (that is, new programs must be paid for with offsetting cost savings or revenue gains) have led to some odd accounting methods – “odd” as in “If you, private citizen, used this kind of accounting, you’d end up in the slammer.” The ObamaCare health law includes $23 billion in “savings” from declaring black liquor ineligible for cellulosic biofuel credits starting on Jan. 1, 2010, even though no money had ever been budgeted for that alleged expense in the first place.

So how long will it take some enterprising Congressman to propose "paying for" a new multibillion-dollar program by changing that date to Jan. 1, 2009?