The federal Investment Tax Credit (ITC), as established by the Energy Policy Act of 2005, has been vital to the growth of solar. The 30% credit has fueled a 1,600% increase in solar installations since its inception.
The tax credit remains at 30% of project cost until the end of 2019 before gradually stepping down to 26% in 2020, 22% in 2021, then 10% onwards for utility and commercial-scale projects. As the step-down approaches, how will the industry prepare?
Things Were Much Scarier A Few Years Ago
The ITC was originally set to drop to 10% at the end of 2015 before it was surprisingly extended, making the current step-down far smoother to navigate than what the industry faced in 2015. Since then, solar has expanded, prices have come down, and the IRS recently issued clarification on ITC eligibility allowing projects that start the construction process in 2019 to receive the full 30%. This “commence construction” clause is projected to boost utility-scale projects in a similar manner as was seen in 2016. During the closing months of 2015, developers and investors rushed projects to close, trying to receive the 30% tax credit they believed would soon be terminated. This blitz led to record builds in 2016. In contrast, this upcoming step-down is less severe and the market is much more mature, leading to predictions of more fluid start-to-finish processes and less bottlenecking for utility-scale projects.
The Other Step-Down – The Corporate Tax Rate
As it gears up for the impending step-down, solar is simultaneously weathering the recent decrease in corporate tax rates from 35% to 21%. In its wake, fewer investors are seeking to slash their tax payments through solar investment, as less tax liability has led to less interest among investors in finding tax credits. Tax equity traditionally makes up 40-50% of solar financing, but those figures are estimated to drop as far as 32% because of tax reform and the resulting lost value of depreciation. The amount of tax equity raised is a direct function of tax liability, meaning the step-down will further reduce the abundance of tax equity funding.
In addition, the importance of the ITC is most evident in markets lacking state solar incentives such as rebates, credits and tax exemptions. At least twenty states, including small emerging markets like Oklahoma, Wyoming and Kentucky, have limited to nonexistent local incentives. Developers in these markets rely heavily on the ITC to make solar projects economical. Such states are ideal laboratories to see how the ITC reduction will alter financing structures.
A Resilient Industry
In any case, solar will continue to prosper despite shifts in traditional investment breakdowns. Recent tariffs and corporate tax rate reductions have failed to considerably deter investments, and solar costs have persistently trended downward through numerous obstacles. Investors are maintaining faith in solar and reap the benefits of cheaper electricity, long-term stability, and extended tax benefits. The ITC extension has given customers time to maximize returns, but solar should remain profitable after the reduction. Falling module costs, a result of naturally decreasing prices and the annual reduction in tariffs, will help buffer the tax credit reduction. Customers should be aware of impending changes in financing structures, but optimistic of sustained industry growth.
This is an excerpt from the November 2018 edition of The SOL SOURCE, a monthly electronic newsletter analyzing the latest trends in renewable energy based on our unique position in the solar industry. To receive future editions of the journal, please subscribe.
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