USDA Loans, Loan Guarantees, and Grants for Rural Energy Projects

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1 MARCH 3, 2010 USDA Loans, Loan Guarantees, and Grants for Rural Energy Projects Opportunities for Renewable Energy Companies and Suppliers USDA has established a number of programs supporting renewable energy projects in rural America, including the construction of electric generation and transmission projects in rural America, which received a significant infusion of funds in 2009 and The President s FY 2011 budget request includes $728 million for USDA s renewable energy programs ($666 million in mandatory funds and $62 million in additional discretionary funds) seeking to emphasize the Administration s commitment to renewable energy. Traditionally, USDA, through Rural Utilities Services ( RUS ), has provided loans to rural utilities and cooperatives to finance energy projects. USDA has extended its traditional RUS financing to include loans to other developers of renewable energy projects constructing projects in rural America. Additionally, there are a number of other programs administered by USDA to encourage the development of rural communities in the U.S. that could provide grants, loans, or loan guarantees for developers of energy projects in rural communities, as well as companies manufacturing component parts to be used in such projects. In a challenging debt market, these programs could make it easier to access funds that will facilitate the construction and development of these projects. RUS Loans for Renewable Energy Projects The Food, Conservation, and Energy Act of 2008 (the 2008 Farm Act ) amended the Rural Electrification Act of 1936, as amended (the REAct ), by permitting USDA, through RUS, to make loans for renewable energy projects, including electric generation from renewable energy resources for resale to rural and non-rural residents. Renewable energy sources include solar, wind, hydropower, biomass, or geothermal. To date, no separate regulations have been issued governing such loans, so RUS is using its standard underwriting process under existing regulations.

2 In order for an applicant that is not an existing USDA borrower to apply for a loan for a renewable energy project, such applicant must have entered into a power purchase or tolling agreement with an existing USDA borrower. This program does not offer loans for construction projects, but RUS will issue a commitment at the time of the closing of the bridge financing for construction, with long-term loans to be funded by RUS upon completion of a successful six-month operational period. The term of the loan is limited to 30 years for real estate, 20 years for the useful life of the equipment, and 7 years for working capital loans. The interest rate on the loan is the average tax-exempt rate of similar modifiers published by USDA from time to time. An environmental report under the National Environmental Policy Act ( NEPA ) will need to be prepared. Business and Industry Guaranteed Loan Program The Business and Industry Guaranteed Loan Program is administered by USDA s regional offices. Under this program, loans are made to public or private companies for the purposes of developing business in rural communities, including reducing the reliance on nonrenewable energy resources by encouraging the development of renewable energy resources (including solar and wind). The general purpose of the loan is to improve, develop, or finance business and industry in rural communities, and the loan may be used to develop land or facilities as well as keep businesses from closing. Under the Business and Industry Guaranteed Loan Program, a borrower applies for a loan from an eligible lending institution (federal or state chartered banks, Farm Credit Bank, or other Farm Credit institutions with direct lending authority, Bank for Cooperatives, Savings and Loan Associations, Credit Unions, insurance companies, National Rural Utilities Cooperative Finance Corporations, and mortgage companies that are part of a bank holding company). The lending institution then applies to USDA for a guarantee of such loan. The maximum amount of the loan is $10 million, although the Secretary of Agriculture can grant an exception for loans of up to $25 million for high priority projects. The amount of the guarantee depends upon the loan size, as follows: o 80% guarantee on loans up to and including $5 million; o 70% guarantee on loans greater than $5 million up to and including $10 million; and o 60% guarantee on loans greater than $10 million. According to the Congressional Research Service, approximately $1 billion in loans are guaranteed annually under the Business and Industry Guaranteed Loan Program. 2

3 Rural Energy for America Program Overview The 2008 Farm Act revised and expanded the Renewable Energy/Energy Efficiency Program, which was known as Section 9006 of the 2002 Farm Act. The program is now called the Rural Energy for America Program or REAP. REAP is administered by USDA s regional offices. It provides loan guarantees and grants, or a combination of the two, to agricultural producers and rural small businesses to help: o purchase renewable energy systems (for example, small and large wind turbines; active or passive solar energy systems; geothermal heating and cooling; anaerobic digesters using food or livestock waste; systems using or producing biomass fuels; facilities producing ethanol or biodiesel; or tidal, wave, ocean thermal, and certain hydroelectric technologies); and o make energy efficiency improvements (for example, efficient cooling systems; weatherization of poultry houses; efficient lighting and ventilation; irrigation equipment; industrial motors and supermarket refrigeration systems; or any other projects that save electricity, propane or natural gas, or diesel fuel). Projects that save fuel used in mobile sources, such as tractors or trucks, are not eligible. REAP also offers grants for energy audits, renewable energy development assistance, and renewable energy feasibility studies. Important legislative changes in REAP from the former Section 9006 program include: o Expanding the eligible use to the purchase of renewable energy systems, including systems that may be used to produce and sell electricity; o Increasing loan guarantee limits from $10 million to $25 million and the maximum combined award amount from 50% to 75% of the cost of the program; and o Funding feasibility studies for REAP clean energy projects for up to $50,000. In determining the amount of a REAP loan guarantee or grant, USDA will consider the following six factors: (1) the type of renewable energy system to be purchased; (2) the estimated quantity of energy to be generated by the renewable energy system; (3) the expected environmental benefits of the renewable energy system; (4) the quantity of energy savings expected to be derived from the activity, as demonstrated by an energy audit; (5) the expected energy efficiency of the renewable energy system; and (6) the estimated period of time for the energy savings generated by the activity to equal the cost of the activity. 3

4 Eligible project costs for REAP loan guarantees and grants (or combinations thereof) include: o post-application purchase and installation of equipment (new, refurbished, or remanufactured), except agricultural tillage equipment, used equipment, and vehicles; o post-application construction or improvements (except residential); o energy audits or assessments; o permit or license fees; o professional service fees, except for application preparation, packager fees, and broker fees; o feasibility studies and technical reports; o business plans; o retrofitting; o construction of a new energy efficient facility only when the facility is used for the same purpose, is approximately the same size, and based on an energy audit will provide more energy savings than improving an existing facility; o working capital; and o land acquisition. REAP (and its predecessor Section 9006 program), for example, funds small and large wind energy systems. USDA defines small wind systems as wind energy system for which the rated power of the wind turbine is 100kW or smaller and with a generator hub height of 120 feet or less that is either stand-alone or connected to the local electrical system at less than 600 volts. REAP funds can generally be used to fund small wind systems for farms and rural small businesses. Large wind systems are defined as wind energy projects for which the rated power of the individual wind turbine(s) is larger than 100kW. In the 2008 Farm Act, Congress increased mandatory funding for REAP to $255 million over four years (more than double the 2002 Farm Act level) to meet the high demand for REAP resources. For 2010, Congress appropriated an additional $39 million in discretionary funding for REAP, bringing the total available REAP funding for this year to $99 million. This is a significant increase compared to 2009, where the total available funding for REAP was $60 million. The President s FY 2011 budget request that was released in early February calls for an additional $39 million in discretionary funding in addition to the $70 million in mandatory funding for 2011, which would bring next year s funding level for REAP to a record level of $109 million. USDA has not yet issued a funding notice for REAP for The Notice of Solicitation of Applications (NOSA) for 2009 was issued on May 26, We expect that USDA will issue the funding notice for the 2010 program year in the first quarter of this year. Our description of the REAP requirements in this article is in part based on the 2009 NOSA and may therefore differ 4

5 from the requirements in the 2010 funding notice. Companies considering to apply for REAP this year may find it nonetheless useful to review the 2009 NOSA before USDA issues its 2010 funding notice, given that USDA may apply similar application requirements and ranking criteria as in the 2009 NOSA. REAP Loan Guarantees A REAP loan guarantee protects the lender against a portion of the value of a loan in the event of a borrower default. The amount of a REAP loan guarantee is limited to 75% of the total eligible project cost. The maximum loan guarantee amount is $25 million for any one borrower. The amount of the REAP loan guarantee depends on the loan size: o 85% if the guaranteed loan amount is up to and including $600,000; o 80% if the guaranteed loan amount is greater than $600,000 up to and including $5 million; o 70% if the guaranteed loan amount is greater than $5 million and less than or equal to $10 million; and o 60% if the guaranteed loan amount is greater than $10 million. USDA charges fees to provide a REAP loan guarantee. In 2009, the USDA guarantee fee was 1% of the guaranteed portion of the REAP loan and the annual renewal fee was 0.25% of the guaranteed portion of the loan. REAP Grants In addition to loan guarantees, REAP also provides grants. Grants for feasibility studies are a new feature this year. The maximum amount of a REAP grant is: o $500,000 or 25% of eligible project costs, whichever is less, for renewable energy system grants; o $250,000 or 25% of eligible project costs, whichever is less, for energy efficiency grants; and o $50,000 or 25% of eligible study costs, whichever is less, for feasibility studies. In 2009, 20% of REAP funding was set aside for grants of $20,000 or less and USDA added 10 points to the application score for these projects. As mentioned above, USDA has not yet issued a funding notice for 2010, but may use similar ranking criteria as in

6 Biorefinery Assistance Program The 2002 Farm Act included the unfunded Section 9003 biorefinery grant program. The 2008 Farm Act authorized a broader biorefinery development program, the Biorefinery Assistance Program, with mandatory funding for both loan guarantees and grants available through The Biorefinery Assistance Program provides loan guarantees to fund the development, construction, and retrofitting of commercial-scale biorefineries. Loan guarantees of up to 90% of principal and interest may not exceed $250 million and are limited to 80% of project costs. This program also provides competitive grants to assist with the development and construction of demonstration-scale biorefineries that convert renewable biomass to advanced biofuels. Grants may not exceed 30% of project cost. A wide variety of public, private, and cooperative institutions qualify for funding. The program is for advanced biofuel production, such as cellulosic ethanol or butanol. Eligible technologies include those that (1) are being adopted in a viable commercial-scale operation of a biorefinery that produces an advanced biofuel or (2) have demonstrated to have technical and economic potential for commercial application in a biorefinery that produces an advanced biofuel. Biorefinery assistance loan guarantees and grants under the Biorefinery Assistance Program are subject to feasibility studies and a scoring system. An example of a project that was financed through the new Biorefinery Assistance Program includes a commercial-scale cellulosic (woodchip) ethanol plant for which USDA guaranteed an $80 million loan. When fully operational in 2010, the plant is expected to produce approximately 20 million gallons of cellulosic ethanol per year. In 2010, mandatory funding for the Biorefinery Assistance Program is $245 million (compared to $75 million in 2009). Given this relatively high figure, Congress did not appropriate additional discretionary funds for this program. However, the President s FY 2011 budget request adds an additional $17 million in discretionary funding for this program for Bioenergy Program for Advanced Biofuels The 2008 Farm Act extends the existing Bioenergy Program established by Executive Order in 1999 as the Bioenergy Program for Advanced Biofuels. Payments will be made to eligible advanced 6

7 biofuel producers for the production of fuel derived from renewable biomass, other than corn kernel starch, to include: o biofuel derived from cellulose, hemicellulose, or lignin; o biofuel derived from sugar and starch (other than ethanol derived from corn kernel starch); o biofuel derived from waste material, including crop residue, other vegetative waste material, animal waste, food waste, and yard waste; o diesel-equivalent fuel derived from renewable biomass, including vegetable oil and animal fat; o biogas (including landfill gas and sewage waste treatment gas) produced through the conversion of organic matter from renewable biomass; o butanol or other alcohols produced through the conversion of organic matter from renewable biomass; and o other fuel derived from cellulosic biomass. Eligible producers entering into a contract with USDA under the Bioenergy Program for Advanced Biofuels are paid based on quantity and duration of advanced biofuel production and on net nonrenewable energy content of the advanced biofuel. No more than 5% of funds made available annually under the Bioenergy Program for Advanced Biofuels may go to facilities with a total refining capacity of more than 150 million gallons of advanced biofuel per year. In 2010, mandatory funding of $55 million is available for the Bioenergy Program for Advanced Biofuels. Biomass Crop Assistance Program The Biomass Crop Assistance Program ( BCAP ) provides financial assistance to agricultural land owners and others that deliver eligible biomass material to biomass conversion facilities for use as heat, power, biobased products, or biofuels. BCAP was established under the 2008 Farm Act to help solve the chicken and egg quandary where bioenergy producers would not risk building new commercial bioenergy plants without assurance of a consistent supply of biomass. In turn, farmers would not try out a new crop (like switchgrass) without assurance of a market for the new crop. BCAP was established to overcome these obstacles by paying farmers and others to produce eligible biomass material that can be used in biomass conversion facilities. BCAP has become controversial, because of its high cost and unintended competition for biomass material within the wood products industry. USDA expected to spend approximately $15 million for BCAP in But it will likely spend more than $260 million for it this year as applications 7

8 have skyrocketed and Congress did not explicitly limit BCAP funding in the 2008 Farm Act. Critics argue that BCAP has mushroomed into a large subsidy for sawmills and lumber wholesalers who receive matching payments from USDA to sell their sawdust and other mill residues to biomass conversion facilities. Moreover, traditional buyers of these materials, such as the makers of particle boards, plywood, and fiber boards, argue that BCAP has exponentially increased the price and demand for sawdust and mill residues, because sawmills and lumber wholesalers have a significant economic incentive through BCAP to sell their wood wastes to biomass conversion facilities instead of to their traditional buyers. To address this problem and to rein in costs, USDA proposed a new rule on February 8, The new rule proposes to cancel the notice of funds availability (NOFA) that USDA issued in June of 2009, disallow matching payments for wood wastes and mill residues typically used to produce higher value-added products (i.e., particle board, fiberboard, plywood, or other wood product markets), and implement other program requirements. Comments to the proposed rule are due on April 9, As proposed, BCAP supports two main types of activities: First, it provides funding for agricultural and forest land owners and operators to receive matching payments for eligible material that is sold to qualified biomass conversion facilities for the production of heat, power, biobased products or advanced biofuels. The matching payments are intended to assist biomass producers with the cost of collection, harvest, storage and transportation of eligible biomass. Payments to a particular participant may continue for up to two years after the first payment is made. Second, BCAP provides funding for producers of eligible crops within designated project areas to receive establishment payments of not more than 75% of the cost to establish eligible woody and nonwoody perennial (not annual) crops, and annual payments for up to 15 years for the production of those crops. Biomass conversion facilities and groups of producers may propose designated project areas to the Commodity Credit Corporation (the CCC ). Production activities may include annual payments for producers who are unable to sell their crop due to a reduction in the size or scope of a biomass conversion facility s operation or if a producer experiences crop failure through a natural event, such as drought, flooding, or hail. Biomass producers located in designated project areas can be eligible for matching payments as well as establishment and annual payments. Producers outside the project areas are only eligible for matching payments. 8

9 For guidance to potential eligible material owners and biomass conversion facilities, the CCC intends to provide a list of eligible materials deemed acceptable for BCAP via the FSA Web site at Biomass Research and Development The 2008 Farm Act extends the existing Biomass Research and Development Program created under the Biomass Research and Development Act of 2000 to coordinate policies promoting biobased industrial products. The Biomass Research and Development Program provides grants, contracts, and financial assistance to eligible recipients to carry out research on (1) the development and demonstration of biofuels and biobased products; and (2) the methods, practices, and technologies for the production of biofuels and biobased products. Eligible recipients are private sector entities, institutions of higher education, national laboratories, federal and state research agencies, nonprofit organizations, or consortiums of two or more entities described above. The federal-cost share for any grant is limited to 50% of project cost. The 2008 Farm Act provides mandatory CCC funding for the Biomass Research and Development Program of $118 million for 2009 through 2012 and authorizes an additional $35 million annually through Mandatory funding for this program is $28 million in 2010 (compared to $20 million in 2009). Rural Business Enterprise Grants Rural Business Enterprise Grants ( RBEG ) were originally authorized under the Rural Development Act of Grants are made to rural public entities (towns, communities, state agencies, and authorities), Indian tribes, and rural private non-profit corporations for measures that benefit small and emerging private businesses in rural areas. Small and emerging private businesses are those that will employ 50 or fewer new employees and have less than $1 million in projected gross revenues. RBEG may be used for the acquisition or development of land, easements, or rights of way; the construction, conversion, or renovation of buildings, plants, machinery, equipment, access streets and roads, parking areas, or utilities; pollution control and abatement; the capitalization of revolving loan funds, including funds that will make loans for start ups and working capital; training and technical assistance; distance adult learning for job training and advancement; rural transportation improvement; and project planning. Funding under RBEG is not subject to maximum grant amounts. However, smaller projects are given higher priority. For 2010, Congress appropriated approximately $38 million for RBEG. Rural Business Opportunity Grants Rural Business Opportunity Grants ( RBOG ) are authorized under the Consolidated Farm and Rural Development Act. Grants may be made to public bodies and private nonprofit community development corporations or entities. Although not directly energy-related, RBOG funds may be used to identify and analyze business opportunities that will use local rural economic and human 9

10 resources; to identify, train, and provide technical assistance to rural entrepreneurs and managers; to establish business support centers; to conduct economic development planning and coordination, and leadership development; and to establish centers for training, technology, and trade that will provide training to rural businesses in the utilization of interactive communications technologies. For 2010, Congress appropriated approximately $2.5 million for RBOG. Biobased Markets Program (Biopreferred Program) The Biobased Markets Program (also referred to as the Biopreferred Program) was authorized under the 2008 Farm Act. It continues and expands the federal preference for procurement of biobased products and the biobased products labeling program. The Biobased Markets Program requires every federal agency to give a procurement preference to designated items composed of biobased products unless those items (1) are not reasonably available, (2) do not perform adequately, or (3) are not reasonably priced. Biobased products include building materials, insulation, roof coatings, fuel additives, and other sustainable industrial materials made from agricultural commodities that the federal government can use. The Biobased Markets Program is funded at $9 million in mandatory funding over five years, plus $8 million in discretionary funding over four years subject to appropriations. Available funding for 2010 is $2 million. If you require further information with respect to any of these or future USDA loans, loan guarantees or grants for rural energy projects, please contact o Deborah DeMasi at or ddemasi@nixonpeabody.com o Alexandra López-Casero at or alopezcasero@nixonpeabody.com Please be aware that any communications with us through our website will not establish a lawyer client relationship with us. Do not send us any information that you or anyone else considers to be confidential or secret unless we have first agreed in writing to be your lawyers in that matter. Any information you send us before we agree to be your lawyers cannot be protected from disclosure. 10