Renewable energy tax credits can serve as a significant capital source for financing a project. Initially intended for companies focused on developing some types of renewable energy assets, the Inflation Reduction Act (IRA) and subsequent proposed regulations opened opportunities for other business entities to acquire or sell earned energy tax credits. To fully capitalize on these opportunities, it is important to understand how the IRA works as we have moved past a theoretical framework and into transactional execution.
Our February 2023 publication Renewable Energy Tax Credit Transfers: Doing Well by Doing Good covered the early stages of IRA implementation. This update focuses on recent changes and how tax executives can reduce tax obligations and improve cash flow.
New Developments for Renewable Energy Tax Credits
In the past year, the IRS issued proposed and final regulations on the transfer of renewable energy tax credits. While some companies adopted a wait-and-see approach, others embraced the new opportunities. We have seen changes in several key areas, including the following:
Market Activity and Segments
The market has become highly active since the introduction of the IRA and is expected to expand further as successful track records emerge. Due to the competitive nature of the market, the price per credit for the most desirable tax credits has increased.
The BDO team has observed an increased interest in transferable tax credits from various market segments, including foreign companies establishing operations in the U.S. specifically to take advantage of IRA-related tax credits. In the last quarter of 2023 and first quarter of 2024, BDO tax professionals facilitated more than $1.5 billion in credit transfers.
Domestic Content Requirements
Some renewable energy tax credits require the project to adhere to domestic content requirements, meaning that a certain percentage of materials or labor must be sourced from the U.S. When tax credits are purchased from an organization that meets this mandate, the purchaser may receive an additional 10% credit. These requirements, which were introduced in the IRA, have had a significant effect on development and supply chains.
Prevailing Wage and Apprenticeship Requirements
In general, taxpayers are eligible for increased credit amounts by satisfying the PWA requirements or if they fall under one of the exceptions in Internal Revenue Code Section 45(b)(6)-(8). By satisfying the PWA requirements, taxpayers can generally increase the base amount of the credit or deduction by five times. Approximately a dozen credits and the Section 179D deduction reference the PWA requirements, with the specific requirements varying depending on the particular IRA provision.
Hybrid Structures
Hybrid structures, which simplify some aspects of the tax equity partnership model and incorporate features of direct credit transfers, are becoming more popular. Traditionally, tax credit transfers were conducted through a tax equity partnership model, with direct credit transfers as an alternative. Each method has its advantages and disadvantages.
The tax equity path typically results in robust and organized documentation. A transferee interested in purchasing tax credits from a tax equity partnership may benefit, because the necessary information for due diligence is readily available.
Looking ahead to 2025, credit transfers may become more outcome-based and technology-neutral. As a result, the scope and appeal of renewable energy tax credits may continue to grow.
Key Considerations for Tax Credit Transfers
Even with a robust market of buyers and sellers, making appropriate “matches” can be challenging due to the specific parameters of each credit, such as credit amount, type, volume, credit risk, and insurance. Early preparation is important for both buyers and sellers of renewable energy tax credits. Here are some actions to consider:
- Engage your tax, legal, and treasury departments early in the discussions about transferring renewable energy tax credits.
- Include transferable tax credits in your company’s strategic tax planning.
- Determine the parameters under which you would pursue a transferable tax credit transaction.
- Consult with experienced legal and accounting advisors to assist your team with the process.
- Prepare documentation well in advance of any potential transfers. The demand for renewable energy tax credits typically exceeds supply.
- Mitigate the risk of financial exposure through thorough due diligence and appropriate legal representation. This applies to both buyers and sellers.
Preparing well in advance of a renewable tax credit transfer benefits both buyers and sellers: buyers can act quickly when credits become available, while sellers can be fully prepared to monetize their credits when buyers appear.
Is It Time to Explore Transferable Tax Credits?
The current renewable energy tax credits market is highly competitive. The earlier a company pursues a transferable tax credit strategy, the better positioned it will be to secure the best pricing and terms. For organizations that pay a significant amount of federal income tax, renewable energy tax credits can be an impactful component of their tax strategies.
Explore the complex new world of transferable renewable energy tax credits with guidance from experienced professionals. Our dedicated team of professionals works directly with developers, sponsors, syndicators, and corporations interested in purchasing or selling tax credits.
For more information on how BDO can help, please visit BDO’s Tax Credit Monetization page.