Sunnova CEO John Berger broke ranks last week when he sent a letter to Congress detailing his belief that the solar industry is ready for the sunset of the 30% federal ITC. Not only did Berger state his belief in the robustness of the industry as the whole, he outlined his clear opposition to the extension of the ITC. A top residential solar finance firm, Sunnova, remains confident that although the ITC stepdown may prove momentarily disruptive, it will ultimately spur developments to lower costs across the project development cycle. Furthermore, Berger notes the sunset comes as no surprise and that the industry has had ample time to respond to the expiration of subsidies.
Chief among Berger’s contentions is the belief that a shift away from the current tax equity investment model will usher in less expensive capital from a more diverse pool of investors. To this end, Sunnova calls on Congress to act on legislation that would open solar development to Master Limited Partnerships (MLP) and Real Estate Investment Trusts (REIT). Already available to the development of projects for traditional sources of energy, MLPs and REITs could represent the future of solar project financing. These investment vehicles seek to harness inexpensive and liquid private capital in combination with favorable tax structure.
Used primarily by the oil and gas sector, MLPs offer a safe-haven from double taxation. Prior to the formation of the first MLPs in the 1980s, investors in public corporations were subject to both corporate and individual taxation (with top rates of 46% and 70% respectively at the time). With a MLP the publicly traded entity avoids the federal corporate income tax with partners taxed only at the individual level. A commonly employed MLP model is the development of oil and gas infrastructure. For example, the construction of a pipeline presents the opportunity for consistent future cash flows (usage fees), however, significant amounts of capital must be generated upfront. By raising capital from a large pool or private investors under guidance of the MLP, double taxation is avoided and the cost of capital is kept to a minimum. Furthermore, this model allows for less productive assets to be developed while maintaining predictable yields for investors.
Despite the fact that PV represents an ideal candidate for the MLP structure current regulation stipulates that if 10% or more of the MLP’s income is derived from renewable sources the MLP no longer qualifies as exempt from corporate taxes. Reintroduced in June, 2015 the MLP Parity Act seeks to amend the federal tax code to open the door for renewable-based MLPs.
Similar to MLPs, REITs combine the power of plentiful retail investors to pool resources in larger real estate investments. In combining liquid capital with pass-through taxation, REITs present another viable alternative to the current tax equity investment model. Currently, however the qualifications for a REIT exclude solar and other renewable energy sources from participating in this form of investment. The asset test stipulates 75% of a REIT’s assets must be real property, cash or cash items. The income test stipulates 95% or a REIT’s income come from passive income sources (dividends, interest, rent) and 75% of income from real estate. Although it is not hard to imagine how large solar projects could fit this model, thus far no solar-specific rulings have been made to recognize PV installations as real property or tariff revenue as rent.