Managing Taxes the Bright Way
Solar Offers Financial Planners a Triple Play of Benefits
The best tax planning is forward-looking. With tax season behind us, now is the time financial planners look for ways to lower their clients’ taxes for 2019.
Consider using solar energy as a tax management strategy. Not the solar panels used to lower energy costs at home. Instead, you could guide your clients toward tax-advantaged solar investing that can offer them a trio of benefits.
Solar is an effective tax-offsetting strategy based on federal and, in some cases, state incentives. It also offers consistent, reliable cash flows over the course of the investment. Financial planners who care about offering comprehensive and holistic advice can use solar to add sustainability to their clients’ portfolios.
Last, but not least, your clients can advance their philanthropic goals by helping nonprofits that aren’t eligible for solar tax benefits to install solar on their building.
Why Solar is Hot in America
There’s even more to solar. Increasing adoption of renewable energy makes headlines every week as solar and other sustainable sources become increasingly more important in our country’s infrastructure. For example:
The U.S. had 64 gigawatts of solar capacity as of 2018, enough to power 12.3 million homes
Solar has a 50% annual growth rate for the past decade; today’s capacity is expected to double over the next five years
Over 240,000 Americans work in solar
Solar injected $17B into the domestic economy in 2018 alone
There’s a phrase we use to describe the money that leaves a clients’ coffers to go into government hands: involuntary philanthropy. Of course, the simple term is “taxes.”
Tax mitigation often is at the core of what financial planners are tasked to do. But simply making charitable donations to create tax deductions isn’t enough. Often advisors deploy a battery of tax-advantaged strategies in the investment portfolios such as municipal bonds, oil and gas partnerships, conservation easements, UITs and annuities. But these asset classes also entail market volatility, audit risk and reporting requirements.
Investing in solar offers sophisticated investors strong investment returns and robust tax advantages with minimal exposure to market fluctuations or increased IRS oversight. Of the various tax-advantaged options, solar is the easiest to understand, has the lowest potential risk of audit, and generates the most consistent cash flow for the duration of the project.
With solar, the product is sunshine. Once the system is installed, there are no market risks comparable to oil and gas investing. Solar is clean energy and clean investment, so it’s simple in the eyes of the investor. These projects offer predictable, stable, long-term cash flows, ease of tax preparation, and clearly-defined returns.
Three Ways to Cut Taxes with Solar Investing
Federal Energy Investment Tax Credit (ITC)
The ITC was created in 2006 to stimulate the solar industry, increase demand and drive down the cost of photovoltaic technology. And it worked. Since the ITC’s inception, the solar industry has enjoyed a compound annual growth rate of 76 percent.
As a 30 percent non-refundable credit currently, the ITC applies dollar-for-dollar against income tax. As such, it cannot exceed the taxes owed, but it can be carried back one year or forward every year for up to 17 years until completely used. The ITC cannot offset certain taxes, including self-employment taxes such as Social Security or Medicare.
2. Accelerated Depreciation
The U.S. tax code favors solar, allowing for deductions to recover tangible property costs over a project’s useful life. As is the case with most property, solar energy equipment qualifies under the Modified Accelerated Cost Recovery System (MACRS). In addition, the equipment is eligible for a bonus depreciation in the first year, which along with MACRS lets solar investors recover their capital expenditures through the annual deductions.
3. Steady Above-Average Returns
Funding a solar project generates above-average returns and a short payback. Unlike fluctuating investments, solar projects offer a steady stream of guaranteed income throughout the life of the contract. And because photovoltaic technology has been proven in the field for over 30 years, it’s a stable asset class you can count on.
New Tax Law Shines on Solar Investing
The 2017 Tax Cuts and Jobs Act introduced favorable provisions for solar project financing. There are three key things you need to know:
First, there were no changes to the Federal Investment Tax Credit (ITC). The ITC was already on a legislative path to wind down over the next 4 years. The ITC is 30% of the capital expenditure in 2019, then drops to 26% for projects placed in service in 2020, then drops to 22% in 2021 before leveling out to 10% in 2022 for the foreseeable future.
Second, depreciation now plays a bigger role in solar’s tax benefits. The old rules limited bonus depreciation in the first year to 50% up to $500,000 and was scheduled to reduce and eventually be eliminated. But the new tax law increased the bonus depreciation to 100 percent without an upper limit on equipment placed in service before Jan. 1, 2023. After that, bonus depreciation drops 20% each year until it is fully phased out in 2027.
Third, lowered income tax rates give you more for less. The new tax law cut rates and increased the income level at which the highest bracket applies, so you have more income that falls under lower tax rates. Under the Tax Cuts and Jobs Act, the largest decrease in tax applies to high-income married couples filing jointly. The maximum tax rate for them drops from 39.6% to 37%, which is one significant benefit. The old maximum tax rate applied to income over $480,050, while the new, lower rate doesn’t kick in until income reaches $600,000.
Impact Investing to Do Good While Doing Well
Have you noticed your clients are expressing more concern about putting their money toward sustainable or environmental investments? Over the past decade, impact investing — or ESG — has become increasingly important to certain investors. Replacing fossil fuels with solar energy reduces harmful emissions and supports climate efforts for the planet and its inhabitants for generations to come.
Electricity generation is the single greatest contributor to carbon dioxide emissions today. As the largest source of new electrical capacity in the U.S., solar energy significantly reduces environmental impacts, reduces harmful emissions, and cuts demand for fossil fuels. Installed solar capacity in the U.S. is expected to reach 100 gigawatts (GW) by 2030, an achievement that the National Renewable Energy Laboratory estimates will displace nearly 101 million tons of CO2 emissions from natural gas and coal.
The health benefits of this emissions reduction are significant. With 100 GW of solar installed:
Roughly 437 deaths could be avoided
There would be about 717 fewer heart attacks
Emergency rooms would see about 7,945 fewer respiratory distress patients
Sustainable Investing Attracts Attention from Financial Planners
Sustainable and impact investing in the U.S. is mushrooming — and making a difference. According to the Forum for Sustainable and Responsible Investment (SIF), which has tracked impact investing in the U.S. since 1995, investors now consider ESG across $12 trillion of managed assets, a 38 percent increase since 2016. That’s 26 percent — or more than one in four dollars — of the $46.6 trillion in total assets under professional management.[1]
The most important ESG factor? Climate change. In 2018, money managers reported it influenced investing decisions regarding $3 trillion. Renewable energy, including solar, plays a vital role in offsetting the greenhouse gasses that affect climate change.
The U.S. Trust Insights on Wealth and Worth® survey polled nearly 1,000 high-net-worth (HNW) across the country about building wealth. Eighty percent of HNW investors expect companies to make a profit while taking responsibility for their impact on the environment and society.
Fifty-three percent of all HNW investors say a company’s ESG trading record is an important consideration in their decision about whether to invest there. Those most likely to consider ESG are millennials (87 percent), Gen X (65 percent) and women (64 percent).[2]
But it’s not just millennials who care. HNW parents and grandparents regard impact investing as part of establishing their legacy. Six in 10 parents with children under 25 agree that ESG principles can help teach responsible money-making principles to younger generations.
Investing for Social Returns
Eighty-four percent of those surveyed believe it’s important to give to those less fortunate, but only one in three feels they are doing enough to help others. “Social investing” in a nonprofit’s solar project does more for a charity’s mission than a one-time gift can. Solar reduces a nonprofit’s operational costs year after year for two decades while creating sustainable, clean power.
Because they don’t pay income taxes, nonprofits such as churches and schools can’t enjoy the tax benefits that reduce the capital outlay for a solar project. But outside investors who own those solar projects can. By installing solar, nonprofits rein in energy bills and make their physical assets carry their own weight.
Organizations like Interfaith Power & Light (IPL) strive to help churches be “faithful stewards of Creation” through conservation and renewable energy programs. With over 18,000 congregations across 40 states, IPL conducts campaigns to prompt a religious response to global warming.
Implementation Strategy: How to Get the Most Out of Your Solar Investment
How can your clients maximize the benefits of investing in solar? With the right implementation strategy, solar investing can be straightforward.
Investing directly in a project gives investors the most advantages compared to other available options. Alternatives such as debt and private equity funds provide cash returns but do not offer tax benefits to investors. Tax equity vehicles are not as readily available to individual investors. Direct investments are often smaller, more targeted, faster to deploy, and yield strong benefits.
Make Passive Activity Rules Your PAL
The IRS created “passive activity loss” (PAL) rules as part of the Tax Reform Act of 1986 in an effort by Congress to prevent the use of losses from activities in which an investor didn’t actively participate and apply those losses to reduce taxable non-passive income. The Solar tax credit is required to be applied against passive income, unless the investor demonstrates “materially participation” in the business.
Individuals, estates, trusts, partnerships, “S” corporations and closely-held “C” corporations all must comply with PAL rules, while other widely-held “C” corporations are not covered under PAL and are allowed take the Solar ITC against normal income.
There are, however, ways to gain the benefits of solar investments and comply with PAL rules as an individual or other pass-through entity:
Invest directly into a single solar project and be the sole owner and operator of the assets (passive and non-passive income investors)
Invest in a solar tax fund that invests in many solar projects along with other investors (passive income investors only)
Give your clients a head start and let them triple their impact with tax-efficient, socially-responsible solar investing that boosts their portfolio, protects the planet and supports philanthropic goals.
Contact us for a consultation and learn how your family office can take your tax planning forward with a solar project investment.
Contact SDC Energy
408.320.5069
www.sdc-energy.com
[1] US SIF Report on US Sustainable, Responsible and Impact Investing Trends 2018
[2] 2018 U.S. Trust Insights on Wealth and Worth® Report
