Utilizing Tax Equity Transferability via Inflation Reduction Act

TL/DR –

The Inflation Reduction Act (IRA) has changed how federal clean energy tax credits are used, allowing them to be bought and sold as cash. The IRA opens up more opportunities for companies seeking tax savings, offering them the chance to participate in a growing tax credit market instead of committing to a lengthy renewable energy investment. The act has also allowed for the sale of 11 specific tax credits, a privilege that is open to a wide variety of eligible taxpayers, but entities such as tax-exempt organizations and local governments are not permitted to sell credits.

The Inflation Reduction Act’s Benefits to Clean Energy Tax Credits

The Inflation Reduction Act (IRA) has transformed federal clean energy tax credits, providing a new opportunity for companies to monetize their investment and production tax credits for renewable energy projects. With the IRA, these credits can now be bought and sold, creating a new path for companies wanting tax savings, without needing long-term commitments to renewable energy investment projects.

Tax Equity Overview

U.S. tax code, boosted by the IRA, encourages investments in specific sectors, particularly renewable energy. This has led to the creation of a tax equity market. In this market, the project developer, the project sponsor, partners with a corporate taxpayer, the investor, to leverage tax credits and depreciation benefits for funding.

For investors, initial expenses are the upfront investment in tax equity. The expected returns comprise three main components: reduced cash tax liability, regular preferred cash distributions, and a final cash buy out at the deal’s end.

IRA’s Credit Transfer Provisions

The IRA now permits the sale of 11 specific tax credits to a broad range of eligible taxpayers, including partnerships, individuals, corporations, and trusts. This opens a new frontier in tax credit transferability, offering advantages such as acquiring credits at a discount, reduced investment timeframe, and simpler legal procedures than traditional tax equity dealings.

To illustrate, a recent case saw a company reduce their taxes by an estimated $2.2 million through purchasing discounted tax credits. These savings are not taxable for federal income tax purposes, providing further financial advantages.

Choosing the Optimum Approach

The market is likely to stay vibrant for both conventional tax equity investments and transactions involving the transferability of tax credits. Investors in both areas should implement thorough due diligence and secure tax insurance to minimize risks. The novelty of tax credit transferability is drawing a significant number of new investors to the field. Each investor will assess their unique circumstances to decide whether to opt for tax equity, credit transferability, or a combination of both.

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