An Inside Look at Federal Solar Tax Credits

Since the start of this year, the Energy Policy Act of 2005 (EPAct) has provided a financial boost to photovoltaic (PV) system purchasers by implementing a new 30% residential tax credit, and increasing the existing 10% commercial tax credit to 30%. The economic value of these new and expanded federal credits to system purchasers, however, is not at all straightforward, and depends on a variety of factors, according to a new report released by the Lawrence Berkeley National Laboratory, in conjunction with the Clean Energy States Alliance (CESA).

Determinants of the value of EPAct’s PV tax credits include whether the system is for residential or commercial use (the residential credit is capped at $2000), the size of the system (particularly for residential systems, due to the $2000 cap), and the tax status of the system owner (tax-exempt owners cannot benefit from tax credits). Also important, though less obvious, is whether or not the IRS considers grants made by state and utility PV programs to be taxable income, and how these grants interact with the federal credits. This is because, at least for the foreseeable future, most PV systems in the U.S. are likely to be installed with the financial support of a state or utility PV program. If the grants provided by these programs are considered to be taxable income, then a grant recipient can claim the federal PV tax credit (and depreciation benefits, if a commercial system) on the full cost or “basis” of the system. If, however, the grants are not considered to be taxable income, then the grant recipient must reduce, by the amount of the grant, the basis to which the federal credits (and depreciation) apply. For example, a non-taxable grant that reduces up-front system costs by 50% will also cut in half not only the value of the federal tax credits, but also the tax benefits of depreciation (for commercial systems). Using a financial model to equate the net present value of after-tax cash flows under both pre- and post-EPAct conditions, the report finds that EPAct’s residential PV tax credit is worth upwards of $2/W to small (e.g., 1 kW) residential PV systems, but that value declines precipitously as system size increases (e.g., to about $0.50/W at 4 kW), due to the $2000 cap on the residential credit. Since the commercial credit is not capped, system size is much less relevant: EPAct’s incremental commercial credit provides roughly $2/W of value to commercial systems regardless of size. These results vary somewhat depending on whether one assumes a taxable or non-taxable state or utility grant is provided to the system. Interestingly, the report notes that few state or utility PV programs have so far reduced the size of their grants to account for the extra value provided by EPAct’s tax credits. Those few that have taken action have not reduced grant size to the full extent possible, thereby leaving system owners better off than they were prior to EPAct, even despite a lower rebate level. The report can be downloaded from the first of three links below.
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