The following piece was submitted by Robert L. Rojas, CPA, M.S. – Taxation, CExP, and J. Michael Pusey, CPA, Rojas & Associates.
Accessing solar credits is an important consideration for more businesses given amendments in the latter half of 2022. Our topic has become more important to more business decision-makers while also becoming more complicated for the tax professional.
Partial Business Use
Our main topic is a tax credit for commercial solar use, but there is also a solar credit for residential use. When your home is also used for business purposes, the residential credit may be affected by the partial business use.
“I have a home office (or my residence is also used for commercial purposes).
Yes (you may claim the credit), but if the residence where you install a solar PV system serves multiple purposes (e.g., you have a home office or your business is located in the same building), claiming the tax credit can be more complicated.
When the amount spent on the solar PV system is predominantly used for residential rather than business purposes, the residential credit may be claimed in full without added complications. However, if less than 80% of the solar PV system cost is a residential expense, only the percentage that is residential spending can be used to calculate the federal solar tax credit for the individual’s tax return; the portion that is a business expense could be eligible for a similar commercial ITC (investment tax credit) on the business’s tax return, according to the “Homeowner’s Guide to the Federal Tax Credit for Solar Photovoltaics,” from the Solar Energy Technologies Office.
“Can I participate in an off-site community project?”
The answer depends heavily on your specific circumstances. The IRS states in Questions 25 and 26 in its Q&A on Tax Credits that off-site solar panels or solar panels that are not directly on the taxpayer’s home could still qualify for the residential federal solar tax credit under some circumstances. However, community solar programs can be structured in various ways, and even if you are eligible for the tax credit, it may be difficult to claim due to other tax rules.
For example, one arrangement is the creation of a “special purpose entity,” where community members form and invest in a business that operates the community solar project. If your participation is limited to investing in the community solar project and you do not participate in the operation of the project on a regular, continuous, and substantial basis, you are constrained in taking advantage of the credit because you are considered a “passive investor.”
IRS rules require that a tax credit associated with a passive investment only be used against passive income tax liability, which only applies to income generated from either a rental activity or a business in which the individual does not materially participate. Many homeowners will therefore not have passive income against which the credit can be claimed.”
What About Rentals?
“I installed solar PV on my vacation home in the United States?
Yes. Solar PV systems do not necessarily have to be installed on your primary residence for you to claim the tax credit. However, the residential federal solar tax credit cannot be claimed when you put a solar PV system on a rental unit you own, though it may be eligible for the business ITC under IRC Section 48. See 26 U.S.C. § 25D(d), which specifies that eligible solar electric property expenditures must be “for use at a dwelling unit located in the United States and used as a residence by the taxpayer” [emphasis added].
Basics of the Business Energy Credit
We turn to a closer examination of the commercial solar credit. In the tax literature, the commercial solar credit may be described by such terms “investment credit” or “energy credit” or even “green energy credit.” The Code section is 48 which is titled “Energy Credit.” (See Sec. 48(a)(3)(A) (i) and (ii).)
In general, higher income taxpayers are on an equal footing with low-income taxpayers when it comes to claiming this credit.
A credit is more valuable than a deduction because it is subtracted directly from the tax, not taxable income. The solar credit is basically “up front” rather than realized over a number of years. There is also the prospect, if limitations apply, to carryback the credit and carry it forward.
The computation of the credit focuses on the cost of the solar energy property placed in service during the year.
The percentage of your costs qualifying for credit may well have increased due to new amendments.
If you are reading on our topic in late 2022, you’re likely reading commentary that may even seem contradictory. You may have read 2022 commentary saying the credit percentage is 26% in 2020-2022, 22% in 2023, and 10% in 2024 and later (except the 10% is no percentage in the case of fiber-optic solar equipment). Also, the credit declined to 10% if the use of the solar equipment doesn’t begin before 2026.
But then along came the Inflation Reduction Act signed into law by President Biden on August 16, 2022, which can bring the percentage back up to 30%.
Following are a series of introductions to recent changes in our IRC section 48 topic.
“Without the Inflation Reduction Act, we were looking at a 26% tax credit (2022) and next year (2023) was dropping down to 22% tax credit….” (“Applying Renewable Energy Tax Credits to Opportunity Zones, with Marc Schultz,” Jimmy Atkinson, 12/6/22 podcast, opportunitydb.com. See generally “Biden Signs Climate Bill With Transformative Changes to Clean Energy Tax Incentives.”)
“Wind and solar tax credits receive a multi-year extension at full rates, and solar projects are eligible for the production tax credit.” (Latham & Watkins Client Alert Commentary, Latham & Watkins Transactional Tax Practice, Number 2999, 8/16/22, jdsupra.com, page 1 of 12; see also Notice 2021-61, 11/30/22.)
“The (Inflation Reduction) Act substantially changes and expands existing federal income tax benefits for renewable energy, including the existing Section 45 production tax credit (“PTC”) and Section 48 investment tax credit (“ITC”), and adds Section 45Y, the Clean Energy Production Tax Credit, and Section 48E, the Clean Electricity Investment Credit to the Internal Revenue Code. Combined, these provisions would, in effect, extend the ITC and PTC at their full credit rates for eligible facilities on which construction begins before 2034. The Act also includes direct-pay options for certain taxpayers, and permits most taxpayers to sell certain tax credits….” (“The Inflation Reduction Act: Key Provisions Regarding the ITC and PTC,” Schuller, Roessler, and Weisblat, Foley & Lardner, LLP. See also “How the Inflation Reduction Act Changes the Way Energy Tax Credits Are Calculated and Monetized,” including its citations of section 6417 and discussion of “direct pay election” and section 6418 re election to transfer all or a portion of the credit and carryback.)
“As with the PTC, the Act extends the current framework for the ITC for qualified facilities that begin construction prior to January 1, 2025 and implements a similar base credit and increased credit structure. Qualified facilities include solar, fiber-optic solar, qualified fuel cell, qualified microturbine, combined heat and power system, qualified small wind, and waste energy recovery properties. The Act also permits taxpayers to claim the ITC with respect to several additional technologies, including standalone energy storage, qualified biogas property, fuel cells using electromechanical processes, dynamic glass, and microgrid controllers. The election to claim the ITC in lieu of the PTC for otherwise eligible PTC facilities is retained. …
In a credit structure similar to the PTC, the ITC for eligible projects is 30% if construction of the facility begins prior to the Act Beginning of Construction Deadline. As such, any facility that has been placed in service in 2022 or has yet to be placed in service may now qualify for the 30% ITC if construction of such facility began prior to the Act Beginning Construction Deadline, including facilities originally intended to qualify for the 26% ITC by beginning construction in 2020, 2021, or 2022. For facilities that were placed in service prior to January 1, 2022, the historical ITC phase-downs remain intact.
Facilities on which construction begins after the Act Beginning Construction Deadline will be eligible for the 30% ITC only if one of the following is satisfied:
- The facility has a maximum net output of less than 1 MW (AC), or
- Newly enacted prevailing wage and apprenticeship requirements are satisfied….” (The Inflation Reduction Act: Key Provisions Regarding the ITC and PTC,” Schurle, Roessler, and Weisblat, Foley & Lardner, LLP. )
There are particulars of qualification that focus on such details as when significant work of a physical nature begins and looking to use beginning within a certain number of years following the beginning of construction.
Passive solar, such as a greenhouse, is nonqualifying. Solar equipment can include related electrical equipment. Qualifying solar property includes solar panels and related equipment. Batteries and other forms of energy storage can qualify if charged at least 75% by energy that is renewable. Property which uses solar energy to light a building with natural sunlight, termed fiber-optic solar energy property, can qualify for the business credit.
Measuring qualifying expenditures can include installation and some indirect labor. Even sales tax can qualify in measuring the cost of solar energy property. The statute, section 48 of the Internal Revenue Code, expressly doesn’t allow heating a swimming pool to qualify.
How One Claims the Credit
The solar-for-business-use taxpayer reports solar energy property used in business on line 12b, 12c, or 12d of Form 3468. The investment credit flows from Form 3468 to Form 3800, Part III, line 4a, which, for individuals, then flows to Schedule 3 of Form 1040.
If you are claiming a solar credit related to a residence, the return trail begins with Form 5695, “Residential Energy Credits.”
One anticipates revisions in the details of reporting given the recent legislative changes.
Other Noteworthy Tax Aspects of Solar
This Act also had a provision concerning “Environmental justice tax credits for solar and wind projects located in certain low-income communities, low-income residential buildings, low-income economic benefit projects, or on Native American lands.” (“United States: Inflation Reduction Act to Energize Renewables and Energy Transition Projects,” Flynn, Kelly, Murray, and Pavia; Harris Beach, 9/5/22.)
The 2022 Inflation Reduction Act also enhanced the investment tax credit for building clean technology manufacturing facilities that make solar panels. (“United States: The Inflation Reduction Act: A Tax Overview,” Miller, Canfield, Paddock, and Stone, PLC, 8/16/22.) ,
State tax issues are important. There have been California solar developments in recent months, perhaps most notably a reduction in payments to those with solar panels. From “California reduces rooftop solar incentive it says favored the rich,”
“For decades, Californians with rooftop panels have been credited for excess power at or near the full retail electricity rate. The unanimous vote by the five-member California Public Utilities Commission (CPUC) has lowered the rate, which will be determined by the cost the utility would have spent to buy clean power elsewhere. The rates vary by utility and time of day.”
There are also, currently, California property tax benefits to solar.
Even if you have looked at solar related expenditures in the past, you may want to review the incentives to such investments with your tax advisor.
The legislative history of the major changes in the Inflation Reduction Act affecting the commercial solar credit isn’t scheduled to be published until early 2023. However, solar-related planning may nevertheless be important in your near-term planning.
Note from authors: The information contained herein is not intended to be “written advice concerning one or more Federal tax matters” subject to the requirements of section 10.37(a)(2) of Treasury Department Circular 230, as the content of this document is issued for general informational purposes only, is intended to enhance the reader’s knowledge on the matters addressed therein, and is not intended to be applied to any specific reader’s particular set of facts. Although we endeavor to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. Applicability of the information to specific situations should be determined through consultation with your tax adviser.
— Solar Builder magazine