Your Complete Guide to the Solar Investment Tax Credit

Solar energy offers a reliable source of power without the negative environmental and health effects produced by traditional energy sources – such as coal or gas. Recognizing this fact, the federal government, under George W. Bush, passed the Energy Policy Act of 2005 which instituted the first generation of investment tax credits (ITC) for renewable energy. For nearly all homeowners, this tax credit is used for solar power systems. If the tax credit isn’t enough for you, read through our Solar Financing Guide to learn about other options that will make going solar worth it.

Initially, the bill was set to expire in 2007 but has since been extended and revised – by both Republicans and Democrats – such that homeowners may receive some type of tax credit through 2021. At present, the tax credit is set at 26% of the total system cost. However, starting in 2021, the tax credit will gradually reduce for new systems: down to 22% of the total cost in 2021, and all the way down to 0% in 2022. You are eligible for the 26% tax credit so long as solar construction commences on or before December 31, 2020, and the solar panels are in service before 2024. There is currently no tax credit for residential systems established after 2021, so act fast!

For more information on the effects of the ITC step down on solar installation, click here.

Check this video to find more details on Federal Solar Tax Credit. 

How to Calculate the Federal Solar Tax Credit

Currently, the ITC is 30% of the gross system cost of your solar project. The gross system cost includes any improvements needed to facilitate the installation of a solar system (such as electrical work, roof work, etc.). It is important to note that some additional financial incentives will be included in the gross system cost while some will not. For example, you may be eligible for utility or state-run rebates, which are independent of your federal tax credit. We recommend you consult your CPA or tax advisor to maximize the tax credit for your particular situation. For current information on incentives, including incentive-specific contact information, visit the Database of State Incentives for Renewables and Efficiency website.

Calculating Your Federal Tax Credit

Calculating gross system cost EX: (Solar equipment costs + installation cost +  home improvements/renovations – additional incentives/ state credits) = gross cost

Federal tax credit = gross cost x 26%

Please note that the ITC is different from a refund. A refund offers taxpayers money back following the tax cycle. Conversely, a tax credit is an amount of money (gross cost x 26%) that may be used to offset your tax liability in the present or future.

How to Claim Your Solar Tax Credit

Claims are filed through the IRS under form 5695. Section 25D residential ITC allows the homeowner to apply the credit to their personal income taxes. If your tax credit exceeds the amount you may deduct, the remainder will roll over for a maximum period of 5 years (depending on your tax situation this may be rolled into your refund). Check this video that walks you through the process to claim your solar tax credit.

Things to Consider When it Comes to the Federal Solar Tax Credit

If you receive earned income tax credit, or if your tax payments would not allow you to fully benefit from the ITC, then you may benefit from a solar lease or a power purchase agreement (PPA). A solar lease is exactly what it sounds like – you are renting solar equipment at a dollar rate per month. A PPA is an agreement in which the financier owns the system and sells the power back to you at a new electric rate ($/kWh). Thus, you are essentially providing a financier with the ability to claim tax credits, while receiving decreased electric rates for yourself. However, be aware that many solar leases and PPA’s come with what is known as an “escalator clause,” which allows the financier to increase your payments over a specified amount of time (according to the contract). Your electric bill, most likely, will be cheaper than the standard rate for electricity. It is highly important to understand the nuances of the escalator practice to maximize your savings.

As discussed, in a lease or PPA the price you pay your solar provider “escalates” or increases every year. You can choose to have an escalator rate as low as 0% or as high a 3.9% annually. The tradeoff regards future payments – a 0% rate means you pay more now, but the rate will never change. Conversely, a 3.9% rate means lower monthly payments now but higher payments in the future. In the latter case, you are relying on the rising prices of utilities for your lease/PPA to make financial sense. Remember that solar leases escalate your monthly dollar payment while PPA’s escalate your price per kilowatt hour. Most solar leases and PPA’s come with a 20-year contract.

With a PPA, since you’re paying for power, you’re only susceptible to decreased efficiency over time as a result of panel degradation (which means, in the long run, you will be taking more power from the grid). Overall, you can be confident that you will only pay for the power you receive from the panels. By design, your solar provider has an incentive to keep your solar panels running as efficiently as possible.

Leases can sometimes be more nefarious. Since you’re only leasing the system itself (not the power it produces) the provider gets paid regardless of energy production. During periods of unfavorable solar production conditions (rainy/cloudy periods of time, degrading/dirty solar panels) you are still liable for the monthly payment, regardless of how much energy you receive from the panels. Overall PPA’s tend to be more consumer friendly, especially in weathered climates.

An Alternative Solar Financing Option

If paying for your system in cash does not make sense for you, but you still want to own a solar system, then a solar loan might be an attractive option. Solar loans allow you to benefit from the tax credit, avoid any possible “escalator rates,” and the panels you own will add value to your home (more on this below). For more information on the differences between solar leases, solar loans, and PPA’s, click here.

Solar Panels Add Value to Your Home

At present, the only surefire way to add value to your home through solar is to actually own the system. According to a study from the Lawrence Berkeley National Lab (LBL), homes with solar panels in California sold for more than those without. For those of you who live outside of California, solar panels still add a “solar premium” to the value of your house. Nevertheless, you can be confident that owning a solar system will add some type of value to your home.

How Much Value Will Solar Panels Add to My Home

The Berkeley study found that each watt of solar adds about $4 to a home’s value in California and $3 elsewhere. Even if you have a modest 3-kilowatt solar system, you can still expect ($4 x 3,000W =) $12,000 in increased value to your home ($9,000 outside of California).

But, what is a kilowatt hour? Check this video to find out more.

According to the study, the reasons for the price discrepancy are “ not statistically significant,” having less to do with the perceived value of solar and more to do with “ lower net cost and income estimates.” In short, an increase in home value (by price per watt) is largely determined by the cost of installation and utility costs of a given location.

Main Takeaways from the Berkeley Study

• “Home buyers consistently have been willing to pay more for a property with PV across a variety of states, housing and PV markets, and home types.”  
• “PV premiums are robust to housing market conditions.”
• “In contrast to previous studies, the Berkeley study found a relatively small and non-statistically significant difference between PV premiums for new and existing homes.”
• The study examines homes in which the owner is the sole operator and financier of the system. The study suggests homes which utilize PPAs and leases as an area of further research.

The goal of going solar is to save money on utilities in the long run and even to add value to your home. With regards to minimizing the cost of a system, there are several, seemingly overwhelming, ways to benefit from subsidies and incentives. Our goal at Solar.com is to make this process as easy and cost-effective for you as possible. Please continue to explore our blog and utilize the hyperlinks in this article to guide your decisions.