Submitted by Bill Fernie
3rd September 2026
There is a strange contradiction developing in Scotland's energy policy.
On one hand, Scotland wants more renewable electricity, more energy storage and a much more flexible electricity system. On the other, some of the infrastructure needed to deliver that system is becoming caught up in a business rates system that can impose substantial charges on hydro operators.
Most people would probably assume that if a hydroelectricity company pays business rates, the charge is mainly related to its powerhouse, offices and other buildings.
It is rather more complicated than that.
The rating system can also take account of major engineering structures that are fundamental to the operation of a hydro scheme. Among them is something known as a penstock.
If, like me, you had not come across the word before, the explanation is quite simple. A penstock is essentially a large pipe or enclosed waterway which carries water from a reservoir, intake or higher-level water source down to the turbines. The water may be travelling downhill under considerable pressure and the penstock is therefore a major part of the infrastructure which allows the hydro scheme to generate electricity.
In other words, it is not a little pipe behind the building. On a substantial hydro scheme it can be a very large and expensive piece of civil engineering.
And that is where an obscure argument over business rates becomes much more interesting.
When a pipe becomes a tax issue
Scotland's non-domestic rates system is a property tax. The amount payable is based on the rateable value assigned to the property, with reliefs potentially reducing the final bill. The Scottish Government sets the national poundage, while valuation is undertaken by the independent Scottish Assessors.
The difficulty for hydro operators is that the question of what constitutes rateable property can become surprisingly complicated.
A hydro operator can look at a penstock and see an essential part of the machinery of electricity generation.
The rating system can look at it in a different way.
That difference is now at the centre of a legal dispute which could have consequences well beyond the individual hydro scheme involved.
The issue is particularly important because Scotland has a considerable existing hydroelectricity industry, much of it in rural and remote areas, while at the same time planning a major expansion of pumped-storage hydro.
Why the rates can become so important
Business rates are not necessarily a small cost for a hydro operator.
A scheme may have relatively few employees and comparatively modest day-to-day operating costs. But it can contain millions of pounds of civil engineering and generating equipment spread across a large area.
If those assets contribute significantly to the rateable value, the resulting rates liability can become a major annual expense.
There is also a wider question here about how a property tax is being applied to infrastructure whose purpose is to produce electricity rather than to provide conventional commercial accommodation.
That matters because hydro projects are long-term investments. Developers and investors need to know what their costs are likely to be over decades, not merely whether a project looks viable when the turbines are switched on.
Scotland does provide hydro rates relief
It would be wrong to suggest that hydro operators simply pay the full business rates bill without assistance.
Scotland has a specific hydro relief. Under the current arrangements, hydro schemes with a rateable value of no more than £5 million can receive 60% relief, with that particular relief available until 31 March 2032.
There is also renewable energy relief which operates on a sliding scale according to rateable value.
But here another remarkable feature of the system appears.
The Scottish Government's guidance specifically says that renewable-energy relief applies to electricity production from water but excludes production from the pumped storage of water.
That distinction could become increasingly important.
The pumped-storage problem
Pumped-storage hydro is different from conventional hydroelectric generation.
Instead of simply allowing water to flow downhill once, a pumped-storage scheme effectively operates like a giant rechargeable battery.
When electricity is plentiful or relatively cheap, electricity is used to pump water uphill into a higher reservoir.
When electricity is needed, the water is released downhill through turbines and electricity is generated.
The attraction for Scotland is obvious.
Wind generation can be extremely high at times when electricity demand is relatively low. At other times demand rises while renewable generation may fall. Pumped storage provides a way of moving energy from one period to another.
That makes it potentially very valuable in a system containing large amounts of wind power.
But pumped-storage projects also require enormous amounts of infrastructure.
There can be reservoirs, tunnels, shafts, underground powerhouses, waterways and the equivalent of very large penstocks carrying water between different levels.
And unlike conventional hydro generation, pumped storage is specifically excluded from the renewable-energy relief described in the Scottish Government's current rates guidance.
That raises an uncomfortable question.
If Scotland believes pumped storage is essential to the future electricity system, should its tax system be treating the infrastructure required to provide it in quite the same way as other rateable property?
This is no longer just a theoretical argument
The question has already reached the courts.
A dispute involving the rating of hydro infrastructure has become a test case for the industry. The argument centres on whether infrastructure such as a penstock or headrace should be treated as rateable under provisions dealing with pipelines and conduits.
This matters because the terminology can obscure what is really happening.
A headrace may simply be the route through which water travels towards the generating equipment. A penstock is the pressure conduit carrying water towards the turbine. To someone looking at the physical operation of the scheme, these are obvious components of the hydro system.
But in the rating system, the legal classification can have a substantial financial consequence.
The outcome of the appeal could therefore affect many other hydro operators whose valuations are being challenged.
The bigger policy contradiction
This is where the Scottish Government needs to look beyond the individual rates dispute.
Scotland is spending enormous amounts of political effort encouraging investment in renewable generation.
It also needs storage.
As wind power becomes a larger part of the electricity system, the ability to store electricity or shift its availability becomes increasingly important.
Pumped storage is one of the technologies capable of doing that at scale.
Yet the existing rates framework draws a distinction between hydro generation and pumped storage and can leave developers facing questions about how the infrastructure itself will be valued.
There is nothing wrong with asking successful energy companies to contribute towards the cost of providing public services.
The question is whether the tax system is producing a sensible result.
A tax can be perfectly legal and still be badly designed.
And then there is the investment question
A developer considering a new hydro or pumped-storage project does not simply calculate the cost of the turbines.
It has to consider construction, finance, grid connection, planning, land, environmental requirements, maintenance, electricity-market revenues and taxation.
If the treatment of major infrastructure creates uncertainty over the future rates bill, that uncertainty becomes another factor in the investment calculation.
That could be particularly significant for pumped storage because these are not small projects.
Scotland is talking about projects requiring billions of pounds of investment.
The more expensive and uncertain the project becomes, the more difficult it can be to secure the investment needed to build it.
This deserves a much wider debate
The hydro rates dispute may sound like a specialist argument between energy companies, lawyers and Scottish Assessors.
It is actually about something much bigger.
What sort of tax system should Scotland have for the infrastructure of its future electricity network?
A pipe carrying water to a turbine may not look like a piece of national infrastructure to someone walking past it.
But without it, the electricity is not produced.
And an enormous underground waterway in a pumped-storage project may look even less like a conventional commercial property.
Yet it could ultimately help Scotland deal with one of the biggest problems created by the expansion of renewable energy: how to store electricity when there is too much and make it available when there is too little.
Scotland therefore faces a choice.
It can continue to deal with hydro business rates through individual appeals, reliefs and complicated interpretations of the existing regulations.
Or it can step back and ask whether the system itself makes sense for the energy system Scotland is trying to build.
That question becomes increasingly urgent as pumped-storage projects move from being an interesting idea to major infrastructure proposals.
It would be an extraordinary irony if Scotland spent billions encouraging renewable generation and energy storage, only to have an outdated approach to business rates add another obstacle to building it.