Key Takeaways:
- Inflation Reduction Act changes simplify and expand renewable energy tax credit transfers.
- Domestic content and wage rules boost potential credit value.
- Early strategic planning helps maximize tax savings and returns.
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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.
The February 2023 publication Renewable Energy Tax Credit Transfers: Doing Well by Doing Good by BDO 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.
IRA Altered the Renewable Energy Tax Credit Landscape
Prior to the enactment of the IRA, companies were generally prohibited from selling federal renewable energy tax credits directly. Energy developers could transfer the value of these credits to companies looking to reduce their tax liabilities through tax equity partnerships, but the process was complicated, and participation was limited.
The IRA simplified this process with two major changes:
- Direct Payment: Eligible taxpayers may now receive direct refunds of 100% for the renewable energy tax credits they have earned.
- Transferability: Tax credits can be sold at a discount to qualified buyers.
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 MGO 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.
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.
Why MGO?
Navigating the complexities of renewable energy tax credits requires precision and foresight. Our dedicated team of tax professionals bring a deep understanding of the Inflation Reduction Act’s evolving regulations and market dynamics. We have successfully facilitated substantial credit transfers, helping clients optimize tax benefits while aligning with compliance requirements like prevailing wage and domestic content standards.
By working with MGO, you gain access to strategic planning, meticulous due diligence, and a network of buyers and sellers — positioning your organization to capitalize on emerging opportunities and maximize returns. Reach out to our Tax Credits and Incentives team today to learn how we can help you unlock greater value from your tax credit strategy.
Written by Gabe Rubio, Jesse Tsai and Leah Turner. Copyright © 2024 BDO USA, P.C. All rights reserved. www.bdo.com