January 12, 2024
By Jeff St. John

Tax-credit rules leave key ​‘blue hydrogen’ issues unanswered

Environmental watchdogs worry the Biden administration’s proposed rules for hydrogen tax credits may allow fossil gas and biogas to pollute at taxpayer expense.

(Julian Spector/Binh Nguyen/Canary Media)

The Biden administration’s newly proposed hydrogen tax-credit rules aim to enforce strict carbon emissions limits on companies making hydrogen from carbon-free electricity — so-called ​“green hydrogen.”

But its plans for policing the emissions from hydrogen made from fossil gas — in particular, so-called ​“blue hydrogen” — aren’t as clear. That has environmental watchdogs worried.

“We also need to be paying close attention to the blue hydrogen side of the equation,” said Morgan Rote, director of U.S. climate policy at the nonprofit Environmental Defense Fund.

“Blue hydrogen” is the term for hydrogen that’s made from fossil gas, but in a way that prevents the resulting carbon emissions from entering the atmosphere. At present, very little blue hydrogen actually exists — most of the roughly 10 million metric tons of hydrogen made in the U.S. every year is ​“gray hydrogen,” which is produced using fossil gas without capturing emissions.

The Inflation Reduction Act’s ​“clean” hydrogen subsidy program, known as 45V for its section of the tax code, is technology-neutral: As long as a project can prove its emissions are below certain thresholds set in the law, it’s eligible. But multiple analyses have concluded that the government’s method for vetting the carbon-intensity of hydrogen projects is at risk of undercounting blue-hydrogen emissions. That could allow massive polluting blue-hydrogen facilities to receive lucrative federal subsidies that are intended to kick-start production of truly carbon-free green hydrogen, advocates warn.

Plenty of blue-hydrogen projects may be trying to prove that they meet this emissions criteria in the years to come.

A February report from the Energy Futures Initiative, a nonprofit research group run by former Energy Secretary Ernest Moniz, found that proposed blue-hydrogen projects account for 95 percent of total U.S. low- and zero-hydrogen production capacity that’s now planned. While small in number, the sheer scale of these projects eclipses the more numerous green-hydrogen projects in the works.

(Energy Futures Initiative)

Blue hydrogen is also a big part of five of the seven hydrogen hubs that in October won preliminary approval to receive up to a total of $7 billion in federal grant funding from the 2021 Bipartisan Infrastructure Law. The long-term economic viability of these hubs may depend on their access to 45V tax credits. That’s likely to encourage the companies and politicians involved to pressure the Treasury Department to craft its rules in a way that allows blue hydrogen to secure them.

Proponents of blue hydrogen argue that the U.S. can’t scale up its supply of low- and zero-carbon hydrogen — a fuel seen as potentially crucial to decarbonizing sectors like heavy industry — unless it embraces their technology. They also argue that the approach can result in genuinely ​“clean” hydrogen, with some going as far as to claim their fuel is ​“carbon-negative.”

But environmental groups are skeptical — and they’re asking the Treasury Department to keep a close eye on blue hydrogen as it fields public comments in advance of issuing a final rule expected later this year.

Why blue hydrogen may not be so clean
One major question is how Treasury will require blue-hydrogen producers to account for methane leaks in the ​“life-cycle emissions” of the fossil gas they use.

Methane is a relatively short-lived but powerful greenhouse gas, with more than 80 times the global warming impact of carbon dioxide over a 20-year period.

Leaks can happen at fossil gas wells and through pipelines, compressor stations and storage facilities to where it’s delivered. Under Treasury’s proposed ​“well-to-gate” rules, hydrogen producers will need to account for ​“upstream” leakage that occurs before the gas reaches their facilities, as well as any methane that escapes at the facilities themselves.

(Department of Energy)

The Inflation Reduction Act requires the Treasury Department to use what’s called the ​“Greet model” to determine these factors. The 45VH2-Greet model, an updated version of the model designed for the 45V tax credits, assumes an upstream methane leak rate of 0.9 percent.

That’s well below the 2.3 percent national average leakage rate established by independent empirical studies, said Tianyi Sun, a climate scientist with the Environmental Defense Fund. In some parts of the country, such as the Permian Basin, leakage rates can be as high as 9 percent.

That’s a big problem, because a blue-hydrogen project using fossil gas delivered over an especially leaky network could be more harmful from a global-warming perspective than simply burning fossil gas, according to studies from EDF and other nonprofits and academic institutions.

The Greet model is updated annually, which provides the opportunity to recalibrate its leakage rates to better reflect reality, EDF’s Rote said. ​“We are doing a deep dive to understand why the Greet number is what it is.”

Another major variable is how much carbon dioxide blue-hydrogen facilities can actually capture and store underground. Carbon capture and storage (CCS) is one way to prevent the climate impacts of burning fossil fuels, but despite decades of effort and billions of dollars spent, most of the CCS projects in the world have failed to achieve the high levels of capture and storage required to make them a climate solution.

DOE has set a target for blue-hydrogen projects seeking 45V incentives to capture 94.5 percent of the carbon emissions they generate. But none of the handful of blue-hydrogen projects that have been built so far have been able to achieve such a high level, Sun said.

“There is a gap between projections of the effectiveness of carbon capture and the reality we’re dealing with today,” she said. ​“They’re often presuming 90 percent or even above 95 percent. But in reality, we’re talking about 60 percent that has been demonstrated commercially,” a finding backed up by reviews of existing steam methane reformation carbon-capture projects from the Institute for Energy Economics and Financial Analysis.

Just how the Treasury Department will require blue-hydrogen producers to track, report and verify their carbon capture rates is not yet clear.

Nor is it clear how the department will handle a broader problem for green and blue hydrogen production alike, she said: the risk of hydrogen leaking into the atmosphere.

“Hydrogen emissions are often completely omitted under life-cycle assessment frameworks,” including the Greet model, Sun said. But hydrogen, despite not being a direct greenhouse gas, triggers chemical reactions that increase the amounts of other greenhouse gases. These effects cause hydrogen to have 37 times more global-warming impact than carbon dioxide over the first 20 years after it’s released, according to recent research. EDF research shows that even moderate amounts of leakage could significantly erode the climate benefits of using clean hydrogen — although other groups have highlighted that hydrogen production with low leakage rates will be more beneficial to the climate than not adopting it.

Hydrogen leakage is something to worry about across the production, transport and usage chain, Sun said. But ​“for blue hydrogen in particular, if both hydrogen and methane emissions are high, hydrogen can be worse for the climate in the short term than the fossil fuel systems it’s replacing,” she said.

The uncertain math for blue hydrogen to earn 45V tax credits
While environmental groups are worried about 45V tax-credit rules that could subsidize polluting blue hydrogen, hydrogen industry groups are worried about what they see as overly strict rules that could prevent effective blue-hydrogen projects from earning the most lucrative top tiers of the credit.

Sound projects ​“that can garner higher credits should be allowed” if their emissions are low enough to deserve it, said Frank Wolak, CEO of the Fuel Cell and Hydrogen Energy Association. ​“That’s why we have the step function of the tiers — to try to challenge people to do better.”

One way blue-hydrogen producers could reduce their emissions impact is by using ​“responsibly sourced natural gas” — a term for fossil gas that third-party analysis has shown to have lower leakage rates. In some cases, he said, responsibly sourced gas could bear a life-cycle emissions rate below the Greet model’s 0.9 percent assumption.

“We haven’t formed a position on the embedded Greet model, whether it sets rates too low or too high,” he said. ​“But we shouldn’t discourage people from applying lower leakage rates if they can prove their responsibly sourced gas leads to” achieving them.

As for carbon-capture rates at blue-hydrogen facilities, ​“we’ll have to see project developers put out the data,” he said. ​“My sense is that the [carbon capture and storage] community…would not be going out and looking to do blue-hydrogen projects if they could not achieve those carbon-capture rates” needed to go after the highest tier of 45V credits.

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But even projects that do source fossil gas from the least leak-prone areas and capture high percentages of their carbon dioxide emissions may be hard-pressed to access the most lucrative tiers of the 45V tax credit.

According to an analysis by think tank RMI, even steam methane reforming plants that capture 90 percent of the carbon dioxide they emit and source fossil gas with very low upstream methane leakage rates of 0.2 percent would emit more than 2 kilograms of carbon dioxide equivalent for every kilogram of hydrogen they produce. That level of emissions would limit them to receiving only one-quarter of the highest credit, or 75 cents per kilogram of hydrogen. (Canary Media is an independent affiliate of RMI.)

But the 45V credit isn’t the only subsidy blue-hydrogen projects can access. The Inflation Reduction Act also boosted an existing credit for carbon-capture projects, known as 45Q, that offers up to $85 per metric ton of carbon captured from point-source emitters, including steam methane reformers.

Projects can’t claim both 45V and 45Q credits, forcing hydrogen producers to choose one or the other. But the 45Q tax credit doesn’t require steam methane reformers to measure the emissions-intensity of the hydrogen they produce, only the tons of carbon they capture, making it far simpler to implement.

A growing number of industry analysts are predicting that blue-hydrogen producers will seek the 45Q tax credit instead of undertaking the uncertain emissions accounting necessary to claim 45V.

And those producers would not necessarily be barred from selling the hydrogen they produce as ​“clean.” The Bipartisan Infrastructure Law ordered DOE to develop a Clean Hydrogen Production Standard to guide the definition of clean hydrogen. Under that definition, any hydrogen produced with 4 kilograms or less of carbon dioxide equivalent per kilogram of hydrogen is considered clean — a target that steam methane reformers could reach without achieving the highest rates of carbon capture and using fossil gas from regions with higher methane leakage rates.

The problem of ​“renewable natural gas” for hydrogen production
But there’s another way for blue-hydrogen producers to reduce their on-paper carbon emissions-intensity to a low enough level to achieve the highest tier of the 45V tax credit, Rote said.

One of the most concerning loopholes involves using credits for ​“renewable natural gas” — methane captured from rotting organic material in landfills, livestock farm manure lagoons or other sources, also known as biomethane — as a means of ​“erasing” the real-world carbon emissions caused by converting fossil gas into hydrogen and carbon dioxide.

This kind of emissions accounting is allowed by California’s Low Carbon Fuel Standard, the most widely used renewable fuel standard in the country. Under the state’s existing rules, methane captured from livestock manure lagoons and burned for energy is counted not just as carbon-neutral, but carbon-negative in its global-warming impacts. What’s more, the state’s standard offers livestock farms far greater carbon-negative ratings than other sources of RNG, such as landfills, food waste and wastewater treatment plants.

(World Resources Institute)

Environmental groups have decried this practice for years, calling it a perverse incentive for the state’s powerful dairy industry to expand harmful factory-farming practices. They argue that methane from livestock operations should instead be regulated as a global-warming threat by penalizing operators that fail to limit emissions — not rewarded as a monetizable resource that fossil fuel providers can purchase to offset their carbon emissions.

Since the creation of the 45V tax credit, these groups, and some lawmakers in Congress, have urged the Biden administration to prohibit similar ​“book-and-claim” accounting methods, which allow hydrogen producers to sign contracts with RNG production in another part of the country to offset the fossil gas they’re using to make hydrogen, from eligibility for the subsidies. Failing to do so, they warned, could allow owners of polluting steam methane reformers to claim that they actually emit less carbon than green hydrogen projects using carbon-free electricity.

Treasury’s guidance does contain some provisions for RNG to be used to make hydrogen that can earn 45V tax credits. But the guidance also lays out some important guardrails against the kind of accounting that California’s Low Carbon Fuel Standard program allows, said Julie McNamara, senior energy analyst with the Union of Concerned Scientists.

First, the guidance only explicitly allows one particular use of RNG, she said: using RNG that’s directly transported from landfills to hydrogen production sites. Other methods of using it may be permitted later, but only after further study.

The guidance also explicitly bars existing fossil-gas-fueled hydrogen production from claiming that it has undergone a ​“facility modification” that would allow it to claim the tax credit simply by switching from conventional fossil gas to RNG, she said. That could prevent existing steam methane reformers from simply switching to using RNG to win the tax credit, although it would allow newly built facilities designed to use RNG.

But Treasury’s guidance does state that it will seek public comment on proposals that could allow broader use of RNG for hydrogen production, she said. It also lays out plans to find ways to use ​“fugitive methane,” such as the methane that escapes from coal mines to pollute the atmosphere, if it can be captured and put to use for hydrogen production instead.

The Union of Concerned Scientists and other environmental groups are urging the Treasury Department to tread carefully in crafting these rules. They argue against allowing blue-hydrogen producers to use the most common RNG emissions accounting methods to justify earning 45V tax credits — particularly those that involve negative carbon-intensity scores like those that livestock manure methane now receives under California’s Low Carbon Fuel Standard.

“If you count it as anything less than zero, you’re ​‘trueing up’ polluting from another existing source,” she explained. For example, a steam methane reformer operator could continue to use fossil gas for most of its hydrogen production but augment it with some negative-carbon-intensity RNG that, on paper, counterbalances the real-world carbon emissions that continue to pour out of its facility, she said.

Wolak noted that the Fuel Cell and Hydrogen Energy Association has joined a number of other hydrogen industry groups in advocating for rules that would allow blue-hydrogen producers to use RNG in ways that align with existing RNG tracking and verification systems.

“We would not want to see limitations to the use of RNG that could otherwise really assist in producing low-carbon and reduced-carbon hydrogen, and set barriers that would have an unintended consequence of limiting the amount of hydrogen that can be produced,” he said.

But the Treasury Department’s guidance does note that it considers existing RNG tracking and verification systems to have ​“limited capabilities” that will need to be addressed before they could be adapted for use for claiming the 45V tax credits.

Its list of flaws includes the fact that existing systems ​“do not clearly distinguish between inputs” or ​“verify or require verification of underlying practices claimed by RNG production sources,” providing little or no underlying data with which to test claims of emissions-intensity of RNG sources.

That could give the Biden administration a strong basis for barring these methods from being used for 45V accounting methods, McNamara said. It also has the authority to require hydrogen producers to use only RNG that’s directly delivered to them, rather than using ​“book-and-claim” processes.

These kinds of steps will be vital if the Treasury Department wants to avoid the prospect of today’s dirty hydrogen producers signing contracts with dairy farms and other sources of RNG that allow them to earn the top tier of 45V tax credits for hydrogen they continue to make from fossil gas, Rote said.

“For the lower tax-credit tiers, the differences between 45V and 45Q are not that different,” she said — about 10 to 20 cents more per kilogram of hydrogen for 45V than for the 45Q tax credits for the amount of carbon captured for the equivalent amount of hydrogen production. ​“So in those cases, it’s likely that a producer might opt for 45Q.”

“But it is really significant for the top tax-credit tier of $3 per kilogram,” she said. ​“If there’s a pathway for those producers to receive the full 45V credit — for example by blending with RNG — that’s where you see the pressure to go after the top tier.”

Sara Gersen, a senior attorney in the Clean Energy Program at nonprofit group Earthjustice, agreed that ​“the prospect of a facility being able to generate these very, very generous tax credits for gray hydrogen with a smattering of biomethane in the feedstock is quite problematic.”

The Treasury Department could avoid that outcome, she said. ​“One of the major things we’re going to be asking for is to ensure that no biomethane resource is treated as a carbon-negative resource,” she said. ​“If we were to treat biomethane from swine and cow manure the same way we treat biomethane from landfills, this wouldn’t be an issue.”

“I have some optimism that Treasury is going to read our comments carefully and implement rules that avoid that outcome,” she added. ​“They’re trying to incentivize innovation,” not help companies ​“create dirty hydrogen and greenwash it.”