Sharon Canavan, Community Relations Expert, OCC

The federal government offers energy investment tax credit and grant incentives to encourage banks and other investors to finance solar energy installations. Before banks invest, however, they should carefully examine the implications of each option.

Section 48 of the Internal Revenue Code (IRC) authorizes the energy investment tax credit (ITC) for “equipment which uses solar energy to generate electricity.” Originally, the energy ITC provided a 10 percent tax credit, but the tax credit was increased to 30 percent by the Energy Policy Act of 2005.

To promote the growth and stability of the solar industry, the Energy Improvement and Extension Act of 2008 extended the energy ITC through December 30, 2016. The American Recovery and Reinvestment Act of 2009 further enhanced the energy ITC by eliminating the requirement to reduce the amount to which the energy ITC applied by the value of any subsidy received by a project.

The 30 percent energy ITC credit is calculated using the total cost of a solar installation, including both equipment and labor—but excluding the building or structural components on which the solar equipment is placed, such as a carport or roof. The full value of the energy ITC is earned when the solar facility is ready and available for its intended use (i.e., placed in service). For the first five years, however, the tax credit is subject to recapture if either (1) the property ceases to be a qualified energy facility or (2) a change in ownership interest occurs. The rate of recapture of the tax benefit is 100 percent in the first year and declines by 20 percent each year thereafter until the compliance period expires.

In 2008, as the economy slowed, demand for tax credit investments declined. The Recovery and Reinvestment Act provided an alternative option to receive an amount equal to the energy ITC as a direct cash grant payment from the U.S. Department of the Treasury. Section 1603 grants are available for qualifying properties placed in service during 2009, 2010, or 2011, for solar construction projects that begin before December 31, 2011, and projects placed in service by the end of 2016. Grant applications must be received by the Treasury Department by September 30, 2012.

In 2009 and 2010, Section 1603 cash grant awards for solar projects totaled $416 million, representing 7.5 percent of the total awards granted. To date, the energy ITC has supported 1,179 solar projects with total investments of over $1.3 billion.⁹

While the cash grant program has proven to be popular with investors, banks should evaluate other considerations before choosing that option. For example, an investor’s corporate alternative minimum tax can be reduced by the amount of the energy ITC, but not by the dollar value of the grant. In deals involving tax exempt or “non-qualified” participants with any direct ownership interest, the tax credit is the appropriate approach because these types of participants are excluded from the cash grant program. The bank must evaluate its projected taxable income. The full value of the energy ITC is earned immediately when a project is placed in service, so the taxpayer’s ability to absorb the entire amount of the energy ITC in the first year should be analyzed (although unused tax credits can be carried forward for up to 20 years). Therefore, the cash grant program may be more suitable for very large projects.

Also, the risk of a tax benefit’s recapture is lower under the cash grant program. Cash grants are subject to recapture only if: (1) there is a change in use of the facility in the first five years; (2) the project is shut down; or (3) the project or a partnership interest is transferred to a governmental agency or tax-exempt entity.

Another tax consideration for investments in solar equipment is the benefit from the modified accelerated cost recovery system, which provides accelerated depreciation over a five-year period, using the straight-line 20 percent declining balance depreciation treatment under Section 168 of the IRC. Under Section 50 of the IRC, however, the dollar amount of the project that can be depreciated must be reduced by 50 percent of the energy ITC amount.¹⁰

Banks should consult their own tax planners for advice about these tax provisions, and their applicability to specific transactions, as well as the consequences that may apply to their own transactions.

For more information, see the OCC’s Community Developments Fact Sheet, “Solar Energy Investment Tax Credits and Grants.”