Federal Tax Credit For Solar Roof – In 16 months, the solar industry faces the end of the line for a 30 percent federal tax credit. The investment tax credit will fall to 10% for companies and to zero for individual customers using solar energy. Some have called it “sun cliff”.
There may be a silver lining to this cloud of tax credit expiration, but it’s still a bad idea.
Federal Tax Credit For Solar Roof
The 30% off solar deal through taxes has been available for almost 10 years, having been extended for eight years in 2008. It has been a key tool. It has made solar power more cost-competitive compared to conventional electricity generation, but by encouraging the deployment of solar power, it has lowered equipment prices and increased the experience of installers (also lowering costs). The chart below shows how much the tax credit reduced the cost of solar in 2008 compared to 2015.
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But taking advantage of tax breaks has always had its downsides. Many would-be solar owners were ineligible because they didn’t have enough tax liability (40% of Americans still don’t have enough annual tax liability to absorb in one year), including cities, counties, and nonprofits. Even for-profit companies often had insufficient tax liabilities and sought “tax capital” partners, such as Wall Street banks, who were always looking for ways to offset their huge tax bills generated by profits.
Of course, these partners with tax capital came at a price. They contributed capital to the solar project in exchange for tax credits, but their required after-tax return of 9% or more drove up project costs. In the end, as much as 50 cents of every dollar of tax incentives (30% credit and amortization) was absorbed not by the solar project itself, but by a Wall Street partner.
Also, because the complexity of accessing tax incentives has led many people to contract with third parties to have their own solar panels on their rooftops, it can inflate the cost of solar power. First, the tax credit is based on the cost of the system, which gives developers who can take advantage of the tax credit an incentive to overprice the system. There is some evidence that – using tax law trickery – solar developers and banks have done just that. Second, because obtaining competitive solar pricing can be complicated and time-consuming, the third party competes more with the incumbent than other developers. That way, they can keep prices low enough to give electric customers a better deal than the utility and reap the difference. The graph below shows how a solar purchase agreement saves the customer money compared to buying from the utility, but the supplier claims a large portion of the savings (we assume electricity prices are increasing 3% per year and PPA prices are increasing 2% per year).
Despite the downsides, articles in the energy trading press highlight the potential impact of losing the federal tax credit, ranging from making solar power less competitive to killing off marginal markets in states outside of California and New York. The graph below shows how the loss of the tax credit, keeping everything else equal, makes solar power less competitive with electricity prices in many states.
Solar Panel Costs
If nothing else changed, the loss of the tax credit could significantly limit the development of photovoltaics in 2017.
One of the biggest problems is sudden change. Solar incentives disappeared earlier. Few utilities still offer solar rebates or incentive payments, and many state programs have also shut down. The California Solar Initiative is an illustration of how to do this with transparency and predictability. Its incentives decreased as the market grew (see chart below).
Another issue is the regional difference in solar resources. Hawaii, New York and Arizona no longer need a tax incentive for solar to compete with grid electricity prices (see GTM 2017 chart above), but many other states do. The tax credit could expire for residents of these “solar-competing states,” and that number will continue to rise as solar costs fall.
While the lapse method is undesirable, the impact could benefit the solar industry in the short term. Firstly, it can significantly increase productivity. According to the comments of former SunEdison CEO Jigar Shah, “10 percent of the largest solar suppliers will have 3-5 [times] volume in 2016-17, and the remaining 90 percent of players will go out of business in 2017 because they simply are not in able to use software and tools to become more efficient.”
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Additionally, the elimination of the tax capital intermediary could offset most, if not all, of the value of the tax credit. Camilo Patrignani, CEO of Greenwood Energy, caused a stir in early 2015 with his statement:
“After the ITC, solar developers can more easily access project debt financing and increase the leveraged return for investors. The ITC attracts investors by lowering project costs and adding tax credits, but it complicates the deal by adding a tax investor to the equation. As solar costs fall, projects can be combined into simplified traditional investments – asset-backed debt and equity and long-term returns.”
There are data that confirm this. The National Renewable Energy Laboratory published a study in 2015 showing that Power Purchase Agreement (PPA) financing terms combining third-party ownership and tax capital mean higher prices. For individual customers, a 20-year power purchase agreement (purchase of solar energy from an external solar panel on your own roof) is 23% more expensive than a loan due to the partners’ capital return requirements, even though they both have similar monthly payments.
For commercial customers, the difference is even more pronounced. A 20-year energy purchase has an 87% price premium over a 10-year loan, despite comparable annual payments.
Solar Panels In Bc
There are of course many other factors. Many customers may prefer third party ownership. Companies buying from a third party benefit the companies for which the deal is “off-balance sheet”. Inverter replacement and other (unlikely) maintenance would also be performed by a third party (although the cost of replacement is included in the year 10 model). Finally, a third party contract means that a solar customer does not need to have sufficient tax liability to absorb the 30% tax credit (although it is likely that customers with this level of income may not have the creditworthiness to secure a third party contract) .
Several other factors favor ownership. The interest rates applied to loans are affected by the customer’s FICO performance. Customers with high credit could get loans with interest rates up to 2 percentage points lower, and customers with poor credit would have interest rates up to 2 percentage points higher. This would change the cost estimate by 2-3 cents per kilowatt-hour in both directions (although not enough by itself to change the outcome). Many solar loans allow you to deduct interest, which would reduce their cost. Ownership also has long-term benefits, as the lifetime of PV panels is 30 rather than 20 years, and the person financing the PV with a loan would have 10 more years of “free” energy, reducing their average annual costs by around 18%.
The big promise of cheap solar finance is crowdfunding or institutional investors. The former represent people who understand the complexity of solar energy but cannot invest through traditional channels. New federal and state laws have attempted to remove barriers to clean energy (and other businesses) crowdfunding, but crowdfunding as an investment (as opposed to donation models like Kickstarter) has been slow to develop.
Institutional investors, such as pension funds or college equity funds, have large portfolios and are looking for varied but stable returns. The problem with attracting these potentially low-cost investors is that they are not interested in tax-incentive returns or small-scale investments. They want solar “securities” to invest in: multi-million dollar pools of solar loans and leases with similar risk profiles. This also developed slowly. To date, third-party funder SolarCity owns the only securitized residential solar component.
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“Combined solar securitisations have been stalled mainly due to the lack of unified documentation and difficulties in analyzing the creditworthiness of a disparate group of developers, sources say.”
In addition, the focus on tax capital financing to take advantage of the federal tax credit has distracted investors investing in solar securities away from cheap financing.
Let’s look at the tension between cheap financing and tax relief, with a 5 kilowatt photovoltaic project as the lens. This housing project in Tucson, Arizona can be installed for $3.40 per watt. With a 10-year debt/equity financing at 10% cost of debt/equity to access the 30% federal tax credit, solar costs 11.8 cents per kilowatt hour. With the tax credit but with financing at 5% for 20 years (chosen for lower monthly payments), the cost of solar is only 2.5% higher at 12.1 cents.
In addition, if the availability of cheap, long-term financing (and the lack of hassle of claiming a tax credit) will allow more residential and commercial customers to install solar energy as owners rather than relying on third party contracts, the slightly higher cost will be more than offset by the cost savings by eliminating middlemen. Here’s a rework of the chart comparing ownership to a prior PPA, now populated with cost data
The Federal Solar Tax Credit Extension: Can We Win If We Lose?
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