FROM THE OFFICE OF PUBLIC AFFAIRS

Mr. Chairman, Ranking Member Coyne, and distinguished Members of the Subcommittee:

I appreciate the opportunity to discuss with you today the Administration's proposed tax incentives for improving the environment.

Earlier this year, in the Administration's budget for FY 2000, the President proposed initiatives to help build livable communities for the 21^st century. The Livable Communities initiative aims to provide communities with tools, information, and resources they can use to enhance the quality of life of their residents, enhance their economic competitiveness, and build a stronger sense of community. As part of that initiative, the Administration proposed a new financing tool -- Better America Bonds -- to help preserve green space and improve water quality for future generations. The proposed $700 million in tax credits over 5 years would make available $9.5 billion in bond authority over 5 years for investments by state, local, and tribal governments to preserve green space, create or restore urban parks, protect water quality, and clean up abandoned industrial sites. The Administration also proposed to make permanent the tax incentive to clean up brownfields in targeted areas, generally low-income communities, which is scheduled to expire on December 31, 2000. The revenue cost of that proposal is estimated to be $0.6 billion over five years.

The Administration's budget also included a $3.6 billion package of tax incentives over 5 years to encourage energy efficiency, reduce greenhouse gas emissions, and develop renewable energy sources. The tax incentives are part of a larger package of complementary initiatives. In addition to the $3.6 billion of tax incentives, the Administration proposed to increase funding for R&D in energy efficient technology and renewable energy, a new Clean Air Partnership Fund to boost state and local efforts to reduce air pollution and greenhouse gases, and $1.8 billion for global climate change research.

My comments today will focus on an explanation of the Administration's tax initiatives for improving the environment.

Americans are concerned that the quality of the environment surrounding their communities is threatened by sprawl, that scenic vistas are being lost, that watersheds are eroding and contaminated, and that public access to outdoor recreation is diminishing.

To address these concerns, the Administration proposed the creation of a new financial tool -- referred to as "Better America Bonds" -- for use by state, local, and tribal governments, often in partnership with non-profit organizations, in securing more livable communities. Better America Bonds are modeled after the current-law provision for Qualified Zone Academy Bonds. The federal government would, in effect, pay all the interest on Better America Bonds for fifteen years, thereby significantly lowering the cost of financing below that attainable by state, local, and tribal governments issuing traditional tax-exempt bonds. Mr. Matsui and others have introduced a proposal for Better America Bonds in H.R. 2446.

Interest would effectively be paid to holders of Better America Bonds in the form of a credit that could be claimed by the bondholder against Federal income taxes otherwise due. The credit rate would be set by the Treasury Department on a daily basis based on aa corporate yields of comparable maturity. The credit rate set for the day on which the bonds were sold would apply for the life of the bonds. (This method of setting credit rates was established by Treasury regulations for Qualified Zone Academy Bonds sold on or after July 1, 1999.) Issuers of Better America Bonds would pay no interest for the 15-year term of the bonds; their only obligation would be for repayment of principal after 15 years.

H.R. 2446 is designed to enhance the marketability of Better America Bonds by allowing buyers of the bonds to strip the "coupons," in the form of the tax credits, from the obligation to repay principal and sell the two pieces separately, much the same way that Treasury obligations are stripped. This would permit non-taxable entities, such as pension funds and endowments, to benefit from the gain between the current value of the stripped principal and the repayment of principal at par upon redemption, while another taxable investor claims the tax credit.

The proceeds of Better America Bonds could be used for the following purposes:

1. Acquisition of land for open space, wetlands, parks, or greenways. Acquired land would be owned by a government or a tax-exempt entity whose exempt purposes include environmental protection.
2. Construction of public access facilities such as campgrounds, hiking and biking trails on publicly-owned land or land owned by a tax-exempt entity whose exempt purposes include environmental protection.

Remediation of publicly-owned parks and open space to improve water quality by planting trees or other vegetation, creating settling ponds to control runoff, or remediating conditions caused by the prior disposal of toxic or other waste. Acquisition of permanent easements on privately-owned open land that prevent commercial development and any substantial change in the character or use of the land. Such easements could be held by governments or tax-exempt entities. Environmental assessment and remediation of brownfields owned by state or local governments under certain circumstances.

In general, property acquired with the proceeds of Better America Bonds would be available only for public use and use by tax-exempt entities, but not private use. The one exception is with respect to remediated brownfields, which could be sold to a private entity for private development, with the sale proceeds made available to repay principal.

After the expiration of the 15-year term of the bonds, tax-exempt entities whose purpose includes environmental protection would have first option to buy any land acquired with Better America Bond proceeds if the government decided to sell the land for development or otherwise convert it to a non-qualifying use. A tax-exempt entity's option to buy could be exercised at the original price of the land, rather than its current market price. The tax-exempt entity would be required to hold the property in its qualifying use in perpetuity.

The Administration proposes $1.9 billion of authority to issue Better America Bonds each year for 5 years beginning in 2000 (i.e., a total of $9.5 billion of bond authority). The Environmental Protection Agency (EPA) would administer an annual, open competition among state, local, and tribal governments for authority to issue these bonds, subject to published EPA guidelines. H.R 2446 stipulates that, as part of the competitive application process, the EPA should try to distribute the credits among the states in proportion to their populations.

Projects qualifying for Better America Bonds, with the exception of remediated brownfields converted to private use, could be financed by tax-exempt bonds under current law. Indeed, states and localities occasionally use tax-exempt bonds for these purposes. But more needs to be done. Benefits from environmental projects are often so diffused over time and distance that taxpayers within particular local jurisdictions are reluctant to finance such projects with conventional tax-exempt bonds.

Compared to traditional tax-exempt bonds, Better America Bonds would significantly reduce the financing costs to local taxpayers of environmental projects. For example, annual payments of principal and interest on a traditional 30-year, $1 million tax-exempt bond issue would, at current interest rates, be about $71,000. In comparison, the annual payments into a sinking fund that would repay after 15 years the $1 million principal of an issue of Better America Bonds would be about $42,000. A state or local government issuing the bonds would thus save about $29,000 per year over the initial 15 years, and $71,000 per year over the remaining 15 years of a 30-year bond's term. Better American Bonds would cost state and local governments only about half of what a tax-exempt bond would (in present value terms). This is a powerful tool for financing investments to make our communities better.

Brownfields are abandoned or underutilized properties where redevelopment is complicated by known or suspected contamination. Because lenders, investors, and developers fear the high and uncertain costs of clean up, they avoid developing contaminated sites. Blighted areas of brownfields hinder the redevelopment of affected communities and create safety and health risks for residents. The obstacles in cleaning these sites, such as regulatory barriers, lack of private investment, contamination and remediation issues, are being addressed through a wide range of Federal programs that includes the tax incentive for brownfields remediation.

To encourage the clean up of contaminated sites, the Administration proposed, and the Congress enacted in the Taxpayer Relief Act of 1997, a brownfield tax incentive that permits the current deduction of certain environmental remediation costs. Environmental remediation expenditures qualify for current deduction if the expenditures would otherwise be capitalized (generally costs incurred to clean up land and groundwater that increase the value of the property) and are paid or incurred in connection with the abatement or control of hazardous substances at a qualified contaminated site. A qualified contaminated site must be located within a targeted area, i.e., census tracts with at least 20 percent poverty rates (and certain contiguous industrial or commercial tracts), designated Empowerment Zones and Enterprise Communities, and the 76 EPA brownfields pilot projects designated before February 1997. In order to claim a current deduction, the taxpayer must obtain a statement from a designated state environmental agency that the qualified contaminated site satisfies the statutory geographic and contamination criteria of a brownfield. The provision applies to qualified environmental remediation expenditures paid or incurred in taxable years ending after August 5, 1997, and before January 1, 2001.

The current-law tax incentive is designed to be temporary to encourage faster clean up of brownfields in targeted areas. However, many taxpayers are unable to take advantage of the incentive because environmental remediation often extends over a number of years. For that reason, the Administration's budget proposed a permanent extension of the brownfields tax incentive. That proposal was introduced by Mr. Coyne and several cosponsors as H.R. 1630.

Reclaiming brownfields would encourage the redevelopment of targeted communities by making unused or underutilized land productive again. Extending the special current-law rule on a permanent basis would eliminate uncertainty regarding the future availability of the incentive and encourage long range investment in the targeted areas. The revenue cost of the proposal is estimated to be approximately $0.6 billion for FY 2000 - 2004. Treasury estimates that the tax incentive would induce an additional $7 billion in private investment to return 18,000 brownfields to productive use over the next ten years.

Individuals and businesses do not invest enough in energy-saving technologies that produce benefits to society in excess of their private returns. If a new technology reduces pollution or emissions of greenhouse gases, those "external benefits" should be included in the decision about whether to undertake the investment. But potential investors have an incentive to consider only the private benefits in making decisions. Thus, they avoid technologies that are not profitable even though their benefits to society exceed their costs. Tax incentives can offset the failure of market prices to signal the desirable level of investment in energy-saving technologies because they increase the private return from the investment by reducing its after-tax cost. The increase in private return encourages additional investment in energy-saving technologies.

The proposed tax incentives for energy efficiency and the environment are designed to reduce energy consumption and greenhouse gas emissions by encouraging the deployment of technologies that are highly energy efficient and that use renewable energy sources. The proposed incentives are also designed to minimize windfalls for investments that would have been made even absent the incentives and to facilitate tax administration.

The design of the tax incentives incorporates the following considerations:

1. Superior energy efficiency compared to conventional equipment. The eligible items should meet higher standards for energy efficiency than conventional equipment or use renewable energy sources. This ensures that tax benefits promote energy efficiency and reduce greenhouse gas emissions.

2. High threshold for eligibility. The energy efficiency standards should be set sufficiently high so that eligible items presently account for a small share of the market. This minimizes windfalls for purchases that would have been made absent the credit.

3. High up-front costs compared to conventional equipment. The targeted technologies have significantly higher purchase prices than conventional equipment and, at current market prices, have limited cost effectiveness. These high up-front costs are another reason relatively few items incorporating the targeted technologies would be purchased without the credit.

4. Commercially available. The items should be commercially available or near commercialization. This ensures that the incentives encourage the deployment of new technologies that private markets have already developed.

5. Ease of administration. The items must be able to be defined precisely enough so that the IRS can administer the incentives. This helps to ensure that tax benefits are claimed only for items for which they are intended.

The tax incentives the Administration has proposed cover buildings and homes, vehicles, renewable energy, and industrial equipment. Mr. Matsui and others introduced these proposals in H.R. 2380.

This sector currently accounts for about one-third of energy consumption and the related greenhouse gases. The proposed tax incentives would encourage investment in highly energy efficient building equipment and new homes, and solar energy systems.

A tax credit of 10 percent or 20 percent would be provided for energy efficient equipment, depending upon the efficiency of the equipment. This credit encourages the purchase of equipment that will improve the energy efficiency of both residential and commercial buildings. The items covered are electric heat pump and natural gas water heaters, electric and natural gas heat pumps, advanced central air conditioners, and fuel cells.

The credit would be 20 percent of the cost of super energy efficient models, subject to a cap. It would be available for the period 2000 through 2003. A 10 percent credit would be available for electric heat pumps, central air conditioners and natural gas water heaters that meet high efficiency standards, but do not satisfy the standards for the 20 percent credit. The smaller credit would be available for the period 2000 through 2001.

Items eligible for the 20 percent credit are top-tier technologies that are much more energy efficient than conventional equipment. For example, compared to typical units on the market, the eligible advanced air conditioning systems and electric heat pumps are 40 percent more efficient, and eligible electric heat pump water heaters and natural gas heat pumps are about twice as efficient. Items eligible for this credit embody new, cutting-edge technologies that have substantial purchase prices and limited in their cost effectiveness. They generally account for less than one percent of market sales. Therefore, the credits would benefit very few purchases that would have been made absent the credit. The 10 percent credit provides a more widely available incentive for purchases of highly energy efficient items, as well as state of the art technology, during the period 2000 through 2001. Some makes and models of qualifying items are currently available. Existing energy efficiency standards for the designated classes of equipment have been used to define eligible items precisely enough for IRS to administer the credit.

The revenue cost of this incentive is estimated to be $1.5 billion for FY 2000 - 2004. The credit is estimated to increase purchases by nearly 10 million items of highly energy efficient building equipment through 2009.

Residences account for about one-sixth of U.S. greenhouse gases and offer one of the largest sources of energy saving potential. Over one million new homes and manufactured homes are built and sold each year. Some states and certain Federal programs require new houses to meet certain energy code standards for insulation and related construction standards, and for heating, cooling and hot water equipment. However, the energy efficiency of new homes could be improved significantly through the use of more energy efficient building practices and more efficient heating and cooling equipment that exceed current efficiency standards.

A tax credit equal to $1,000 to $2,000 (depending upon the home's energy efficiency) would be provided to encourage consumers to purchase energy efficient new homes. The tax credits would be: (1) $1,000 for homes that use at least 30 percent less energy than the standard under the 1998 International Energy Conservation Code (IECC); this credit would be available for homes purchased during the period 2000 through 2001; (2) $1,500 for homes that use at least 40 percent less energy than the IECC standard; this credit would be available for homes purchased during the period 2000 through 2002; and (3) $2,000 for homes that use 50 percent less energy than the IECC standard; this credit would be available for homes purchased during the period 2000 through 2004.

Homes qualifying for the credit would use 75 percent to 85 percent less energy than existing housing and as much as 50 percent less energy than typical new housing. The revenue cost is estimated to be $0.4 billion for FY 2000 - 2004. The credit is estimated to result in purchases of over 250 thousand new energy efficient homes through 2009.

Solar energy systems accounted for 0.02 percent of electricity generation in 1996. These systems produce no greenhouse gas emissions. The tax credit for the purchase of rooftop photovoltaic (PV) systems and solar water heating systems would be 15 percent of the cost up to a maximum credit of $2,000 for PV systems and $1,000 for solar water heating systems. The tax credit for PV systems would be available for the period 2000 through 2006, and the tax credit for solar water heating systems would be available for the period 2000 through 2004.

The revenue cost of this incentive is estimated to be $0.1 billion for FY 2000 - 2004.

This incentive will help to achieve the President's goal of one million solar energy roofs by 2010. The credit is estimated to reduce electricity production from non-solar sources by 3 billion kilowatt hours through 2009.

Vehicles

Cars and light trucks (including minivans, sport utilities, and pickups) currently account for 20 percent of greenhouse gas emissions. Those vehicles also account for about 20 to 40 percent of urban smog-forming emissions and 40 percent of total U.S. petroleum consumption. Almost all cars and trucks use a single gasoline-fueled engine.

Hybrid vehicles, which have more than one source of power on board, and electric vehicles have the potential to reduce greenhouse gas emissions, air pollution, and petroleum consumption. The proposed credits will encourage the purchase of vehicles that incorporate advanced automotive technologies and will help to move advanced hybrid vehicles currently under development from the laboratory to the highway. These vehicles can significantly reduce emissions of carbon dioxide, the most prevalent greenhouse gas.

The proposal would extend the present tax credit for electric vehicles and fuel cell vehicles. Under current law, a 10 percent credit is provided for the cost of qualified electric vehicles and fuel cell vehicles up to a maximum credit of $4,000. The maximum amount of the credit is scheduled to phase down in 2002 and be phased out in 2005. The President's proposal would extend the tax credit at its $4,000 maximum level through 2006.

The proposal also would provide tax credits of $500 to $3,000 for certain hybrid vehicles, depending upon requirements for the vehicle's design and performance. A qualifying hybrid vehicle is a road vehicle that can draw propulsion energy from both of the following on-board sources of stored energy: (1) a consumable fuel, and (2) a rechargeable energy storage system. The tax credits would be available for vehicles purchased during the period 2003 through 2006. The credit amounts -- available for all qualifying vehicles, including cars, minivans, sport utility vehicles, and pickup trucks -- would be:

• $500 if the rechargeable energy storage system provides at least 5 percent but less than 10 percent of the maximum available power;
• $1,000 if the rechargeable energy storage system provides at least 10 percent but less than 20 percent of the maximum available power;
• $1,500 if the rechargeable energy storage system provides at least 20 percent but less than 30 percent of the maximum available power, and
• $2,000 if the rechargeable energy storage system provides 30 percent or more of the maximum available power.

If the vehicle actively employs a regenerative braking system, the amount of the credit shown above would be increased by:

• $250 if the regenerative braking system supplies to the rechargeable energy storage system at least 20 percent but less than 40 percent of the energy available from braking in a typical 60 miles per hour (mph) to 0 mph braking event;
• $500 if the regenerative braking system supplies at least 40 percent but less than 60 percent of such energy to the storage system; and
• $1,000 if the regenerative braking system supplies 60 percent or more of such energy to the storage system.

Hybrid vehicles eligible for the largest credit would be 50 percent to 100 percent more fuel efficient than a conventional vehicle of the same size and power. Doubling a car's fuel economy reduces its emissions of carbon dioxide by about 50 percent. The revenue cost of this initiative is estimated to be $0.9 billion for FY 2000 - 2004. These credits are estimated to result in purchases of 13 million electric and hybrid vehicles through 2009.

Wind and biomass currently account for about 2 percent of electricity generation from renewable sources. These renewable energy sources produce virtually no greenhouse gas emissions. To make electricity produced from wind and biomass price competitive with other forms of electricity generation, the proposal would extend the current-law tax credit for wind and biomass for five years, expand eligible biomass sources, and allow a credit for electricity produced from cofiring biomass with coal.

Current law provides a tax credit of 1.5 cents per kilowatt hour (adjusted for inflation after 1992) for electricity produced from wind and closed-loop biomass (organic material from a plant that is grown exclusively to fuel a qualified electricity generation facility). The current tax credit covers the first ten years of production from facilities placed in service before July 1, 1999.

The proposal would extend and expand the tax credit for electricity produced from wind and biomass. It would:

• Extend the current wind and biomass credit for 5 years to cover facilities placed in service before July 1, 2004.
• Expand the definition of eligible biomass for the 1.5 cent credit beyond closed-loop biomass to include certain forest-related resources and agricultural and certain other sources. This change would apply to facilities placed in service after June 30, 1999 and before July 1, 2004.
• Allow cofiring biomass with coal. This proposal adds a 1.0 cent per kilowatt hour tax credit for electricity produced by cofiring biomass in coal plants after the date of enactment and before July 1, 2004. Only the portion of electricity associated with biomass would be eligible for the credit.

The revenue cost of this incentive is estimated to be $0.3 billion over FY 2000 - 2004.

This incentive is estimated to increase electricity production from renewable energy sources by 32 billion kilowatt hours through 2009.

The proposal would promote energy efficiency in industry by encouraging investments in combined heat and power (CHP) systems. These systems use the thermal energy that is otherwise wasted in producing electricity by more conventional methods. These systems increase energy efficiency, lower the consumption of primary fossil fuels, and reduce greenhouse gas emissions compared with conventional methods.

To encourage and accelerate investment in CHP equipment, an 8 percent tax credit would be provided for eligible CHP investment. A qualified CHP system would be required to produce at least 20 percent of its total useful energy in the form of thermal energy and at least 20 percent in the form of electric or mechanical power, and would have to meet certain efficiency standards. The credit would apply to property placed in service between 2000 and 2002. Eligible CHP systems should reduce input energy requirements by about one-third compared to conventional systems. The revenue cost of this incentive is estimated to be $0.3 billion for FY 2000 - 2004. The credit is estimated to increase cogeneration electrical capacity by more than 1.2 gigawatts through 2009.

The proposed incentives described above encourage businesses and consumers to increase their investment in energy-efficient items, new technologies, and renewable energy sources. The investments induced by the credits would be long-lived and, therefore, would produce energy savings and greenhouse gas reductions for many years after the investment is undertaken. The induced increase in the market penetration of energy-efficient technologies, new technologies, and renewable energy sources may lead to lower cost production and increased awareness of the benefits of such technologies that could have lasting effects.

The cumulative reduction in greenhouse gas emissions attributable to the tax incentives is estimated to be between 100 and 150 million metric tons of carbon equivalent (MMTCE) over the lifetime of the investments undertaken from 2000 through 2009. Over one-third of the emissions reduction is attributable to the tax credits for electric and hybrid vehicles and over one-fourth to the tax credits for building equipment.

Reductions in greenhouse gas emissions, however, are not the only benefits that will be realized from these incentives. The incentives will also reduce local air pollution. In addition, the proposals will produce private benefits, such as energy savings for consumers and businesses. The present value of energy savings for consumers and business over the lifetime of items purchased through 2009 is estimated to be between $22 billion and $33 billion.

The Administration strongly supports the proposed tax credits for holders of Better America Bonds, a permanent extension of the current deduction of brownfields remediation expenses, and tax credits for energy efficiency and the environment.

The proposed Better America Bonds provide a new financing tool that will enable state, local, and tribal governments to preserve green spaces, create and restore urban parks, protect water quality and clean up brownfields. Those governments would be authorized to issue a total of $9.5 billion of Better America Bonds to finance environmental and conservation projects. The proposed permanent extension of the current deduction of brownfields remediation costs will help return industrial and commercial sites in targeted areas to productive use. The proposal is estimated to induce an additional $7 billion in private investment and return an additional 18,000 brownfields to productive use over the next ten years. Together, these initiatives will help to preserve our environmental heritage and make our communities more livable in the 21^st century.

The Administration's proposed package of tax incentives for energy efficiency and the environment is designed to achieve reductions in greenhouse gas emissions and improvements in energy efficiency. Purchases of items that offer superior energy efficiency or that use renewable energy sources would be eligible for a temporary tax credit. The proposed incentives are estimated to reduce greenhouse gas emissions by 100 to 150 MMTCE over the lifetime of purchases made through 2009 that were induced by the credits. The benefits of the proposal should increase significantly in the years beyond the ten-year budget window, through the transformation of markets after the credits are no longer in effect. Moreover, the proposed incentives also may generate other benefits to society, such as cleaner air.

In conclusion, Mr. Chairman, we believe that the Administration's proposed tax initiatives represent sound policy that can produce significant environmental benefits over the next ten years and for decades to come. The proposals represent investments that will generate long-term benefits for the Nation. We look forward to working with the Congress on these initiatives.

This concludes my prepared remarks. I would be pleased to respond to your questions.