I confess that I have not been following the saga of so-called “black liquor” (no, nothing to do with Johnny Walker Black, which was my initial thought, but perhaps that’s just me), but over at Dead Tree Edition, our friend Mr. Tree (if that is his name) has been tracking the various boondoggles—and it sounds like he could use a few belts of said Johnny Walker Black right about now. Here’s the saga in a nutshell: So-called black liquor is the sludge—“spent cooking liquor” is the more or less official term for it—that is generated during the “kraft” paper pulping process. Kraft pulp—generated through a chemical process—is used to make  high-brightness papers like copy paper, high-end coated paper, and other freesheets, as well as certain packaging materials. Other pulping processes, such as mechanical, that are used to make newsprint or “fluff” pulp that goes into tissue, don’t generate black liquor. But more than simply useless muck, black liquor is actually a valuable fuel source, and is reused by paper companies to help generate power for the mill. This is nothing new; paper mills have been burning black liquor since the 1930s. Flash forward. The 2005 highway bill contained an alternative fuels tax credit, which was designed to encourage the use of biofuels in cars and trucks. Here is where the Law of Unintended Consequences comes in. By 2009, the economy had cratered and many companies were in the red. Meanwhile, the IRS said that by burning black liquor (with just a dash of diesel—the idea was to get companies that used diesel to add some biofuel, but the opposite actually happened), paper companies could qualify for a 50-cent-a-gallon alternative fuel mixture tax credit. Tax credits by design reduce the amount of taxes that companies and individuals remit to the government. However, when companies owe little or no taxes (i.e., they are not making money) these tax credits become tax refunds, meaning that troubled companies could now get cash back from the government. And when you read the phrase “troubled companies,” you would not be wrong to immediately think of the paper industry. So the Treasury ended up paying $8 billion to paper companies. Well, what was reported to the SEC was $8 billion, but more than one-fourth of the companies involves in kraft pulp production are private companies that don’t have to report to the SEC. So the real total is more along the lines of $10–11 billion. The Washington Post’s Steven Mufson has written extensively about the black liquor quagmire, and following what was essentially a federal bailout of the paper industry, folks in Congress were none too happy about it. But, it was a moot point, as the black liquor credit legislation expired at the end of 2009. Or was it a moot point? Wrote Mufson:

The IRS in 2010 ruled that black liquor could also qualify retroactively for advanced cellulosic biofuel credits, which were intended to reward innovation in the production of alternative motor fuels. The credit was worth $1.01 a gallon under the 2008 farm bill, but was not refundable and, therefore, only useful for profitable companies. So companies often used a combination of the two tax credits to revise earlier tax returns and maximize income.

These new tax credits are what Mr. Tree calls “The Son of Black Liquor” tax credits. So, the government freaked again, and legislation again ended the application of the cellulosic biofuel credits to black liquor. So, again, it became a moot point. Or did it?

The new twist — largely unnoticed — came in 2011. After the congressional uproar subsided, most paper companies amended their 2009 tax returns to gain further advantage. Initially, paper companies had told shareholders in 2009 and 2010 that the refundable alternative fuel credits would be taxed. But in 2011, they quietly declared that the money shouldn’t be taxed. The Treasury ended up refunding about $2 billion in taxes the companies had paid, according to industry experts.

Since then, inaction and questionable rulings from the IRS (and lobbying from the paper industry) have been a boon to paper companies. Says Mr. Tree:

Paper companies have not been able to use all their credits yet, but when all is said and done the tab will probably be several billion dollars.

He further added, in an e-mail to me:

Companies have several years to use their Son of Black Liquor credits, but as you note they can't use those credits unless they have income taxes to offset. Some have indicated they will continue repaying their Alternative Fuel Mixture credits to claim the larger Cellulosic Biofuel Producer credits for the next few years, as the opportunity presents itself.

There is far more to the saga of black liquor than this, which transcends the paper industry—and even politics. I refer you to Mr. Tree’s more than 50 posts on the topic, including the provocatively titled “How Democrats Helped Finance the Tea Party With Black Liquor.” Now, where’s that Johnny Walker Black?