Solar Tax Credit is Sunsetting Soon

A federal tax credit for the purchase and installation costs of a residential solar system is fading away. After 30% of the value for several years through 2019, the credit amount drops to 26% in 2020 and then to 22% in 2021, the credit’s final year. 

The credit is nonrefundable, meaning it can only reduce an individual’s tax liability to zero. However, the credit portion that is not allowed because of this limitation may be carried to the next tax year and added to the credit allowable for that year. The tax code infers that any credit carryover can be added to the credit allowed in the subsequent year. However, it’s unclear whether any carryover will be allowed to 2022 once the credit expires at the end of 2021. In addition to the credit reducing the regular tax, it also reduces the alternative minimum tax should a taxpayer be subject to it. 

Qualifying Property – Only the following solar power systems are eligible for the credit: 

  • Qualified solar electric property – a property that uses solar energy to generate electricity for use in a home that is the taxpayer’s primary or second residence. 
  • Qualifying solar water heating property – qualifies if used in a dwelling located in the U.S. operated by the taxpayer as a primary or secondary residence where at least half of the energy used to heat water is derived from the sun. Heating water for swimming pools or hot tubs does not qualify for the credit. The solar equipment must be certified for performance by the Solar Rating Certification Corporation or a comparable entity endorsed by the state government where the property is installed.

When Is the Credit Available? The credit may be claimed on the year’s tax return in which the installation is completed. If a taxpayer has purchased and paid for a system and it is completed in 2020, the credit will be 26% of the cost. But if the project isn’t completed until 2021, the credit will only be 22%. This becomes an even bigger issue for systems being installed during 2021 that aren’t completed before 2022 when the credit rate will be zero. If you plan to purchase a solar system in 2021, the purchase should be made early enough in the year to ensure the installation is completed before 2022. 

Who Gets the Credit – It may come as a surprise, but the taxpayer does not need to own the residence where the solar property is installed to qualify for the credit, as the taxpayer need only be a “resident” of the home. The tax code does not specify that an individual has to own the home, only that it is the taxpayer’s residence. For example, a son lives with his mother, who owns the home. The son pays to have the solar system installed; the son is the one who qualifies for the credit. 

Multiple Installations – The credit is available for numerous installations. For instance, after the initial installation, if a taxpayer adds additional panels to increase capacity, these would be treated as original installations and qualify for credit at the credit rate applicable for the year the additional installation is completed, provided that the installation is done before 2022. On the other hand, if a taxpayer had to replace damaged panels or perform other maintenance on the system, these items would not be an original system, and their costs would not qualify for the credit. 

Battery – A battery qualifies for the credit if charged only by solar energy and not off the grid. This has become popular in areas where there are frequent power outages. However, this may be more of a convenience than a necessity, so carefully consider the cost. A software-management tool—whether part of the original installation or added later (before 2022)—also qualifies for the credit in cases in which the software is necessary to monitor the charging and discharging of solar energy from a battery attached to solar panels. 

Installation Costs – Amounts paid for labor costs allocable to onsite preparation, assembly, or original installation of property eligible for the credit. For piping or wiring, connecting the property to the residence are expenditures that qualify for the credit. This includes expenses relating to a solar system installed on a roof or ground-mounted installations. 

Basis Adjustment – The term basis is generally the cost of the home plus improvements and is the amount subtracted from the sales price to determine the gain or loss when the house is sold. The cost of a solar system adds to a home’s basis, and the credit reduces the basis. This will generally create a different basis for federal and state purposes where a state does not provide a solar credit, or it differs from the federal solar credit amount. 

Association or Cooperative Costs – A taxpayer who is a member of a condominium association for a condominium they own, or a tenant-stockholder in a cooperative housing corporation, is treated as having paid their proportionate share of any qualifying solar system costs incurred by the condo or cooperative association or corporation. 

Mixed-Use Property – In cases where a portion of a residence is used for deductible business use or is rented to others, the expenses must be prorated. Only the personal part of the qualified solar costs can be used to compute the credit. There is an exception when less than 80% of the property is used for non-business purposes, in which case the full amount of the expenditures is eligible for the credit. 

Newly Constructed Homes – If you plan to purchase a newly constructed home that includes a solar system, you may be entitled to claim the solar credit. However, to do so, the solar system’s costs must be separate from the home construction costs, and certification documents must be available. 

Utility Subsidy – Some public utilities provide a nontaxable subsidy (rebate) to their customers to purchase or install energy-conservation property. In that case, the cost of the solar system that’s eligible for the credit must be reduced by the amount of the nontaxable subsidy. 

Solar Installations are Not for Everyone – There are TV ads, telemarketing phone calls, and salespeople at your front door, all promoting solar power benefits. One of the key considerations and a frequently mentioned benefit is the federal tax credit. 

What isn’t included in the ads—and something most potential buyers are unaware of—is that the solar credit is a nonrefundable tax credit, meaning the credit can only be used to offset your tax liability. This can come as a very unpleasant surprise and is often a financial hardship when the purchaser of a home solar system finds out that the credit is nonrefundable and won’t benefit from the full credit. 

For example, a married couple with three children, all under age 17, and an annual income of $80,000 installed a solar system costing $20,000 in 2020, expecting a $5,200 ($20,000 x 26%) credit on their tax return. Their standard deduction in 2020 is $24,800, leaving them with a taxable income of $55,200. The tax on the $55,200 is $6,229. They are also entitled to a $2,000 child tax credit for each child, which reduces their tax liability by $6,000 and results in a tax liability of $229. Since the solar credit is nonrefundable, the only portion of the credit they can use is $229, not the $5,200 they had expected. 

On top of that, the family is probably financing the solar system, which significantly adds to its cost. If a 5% home equity loan financed the entire $20,000 price for 20 years, then the interest on that loan over its term would be $11,678, bringing the total cost of the solar system to $31,678 or a monthly fee of $132.

Instead of purchasing a solar system, some homeowners opt to lease a system. This arrangement is not eligible for the solar credit. 

As you can see, there is a lot to consider before making the final decision to install a solar system. Is it worth it, and is it the right financial move for you? Please contact us before signing any contract to make sure a solar system is appropriate for you.

Is the HERO Solar Financing Solution Really a Hero?

The Home Energy Renovation Opportunity (HERO) Plan is a program that finances the purchase and installation of eligible energy-efficient and water-saving upgrades in a taxpayer’s home. These upgrades include solar panels, air conditioning, roofing, windows, lighting controls, and landscape-related products.

The HERO program originated in Riverside County in Southern California, the purpose being to provide financing for high-cost energy-related improvements for a taxpayer’s home, such as solar panels, with principal and interest payments added to the taxpayer’s property tax bill for the year. The HERO program has since spread to almost all counties in CA, and even some areas outside of California. You can also find ads for this program popping up frequently on the Internet.

The fact that the loan payments are included with the property tax payments has led to considerable misunderstanding, with many real estate agents and others claiming the entire payment is tax deductible, which is not true. Although included in the tax bill, the HERO payments are separately stated and not deductible as property tax.

However, the portion of the HERO payment that represents interest is generally deductible as home mortgage interest. Although the interest portion is not spelled out on the property tax bill, the HERO program does supply each borrower with a loan amortization schedule that allows the homeowner to determine the amount of interest paid for the year and the amount that may be deductible.

Another issue is that the IRS requires lenders to issue Form 1098, which shows the amount of interest paid by the homeowner each year. The IRS uses that information to match the amount of interest deducted by the homeowner, and mismatches will result in an IRS inquiry. With the HERO program no 1098 is issued, and care must be taken with regard to how the interest is deducted on the tax return to avoid receiving a letter from the IRS. This problem has been so prevalent that the IRS Chief Counsel’s Office issued an advice letter, and most recently the California Franchise Tax Board offered guidance on the issue.

The HERO program has very liberal qualifications, with no money down, fixed rates and variable terms between 5 and 20 years. However, compared to today’s interest rates, those charged by the HERO program are quite high, generally in excess of 8%, and individuals should explore other avenues of financing first.

Although many of these energy-related improvements will qualify for tax credits, these credits are not refundable, which means they will only reduce your tax liability to zero, and the excess can be carried forward to future years as long as the credit is still in existence. The most substantial federal credit available is the popular solar credit of 30% of the cost of a solar installation, with no cap on the credit.

Example: If you install a $25,000 solar system on your home, the federal credit would be $7,500. However, if your tax liability for the year is only $1,500, you will only be able to use $1,500 of the credit, and the balance carries forward to a future a year.

The solar credit percentage remains at 30% through 2019, and then gets lower each year until the credit ends in 2021.

If you are considering making energy-related home improvements and would like to discuss the tax benefits and your financing options, please give this office a call.

Solar Tax Credits – Before You Take the Leap

When you see those TV ads for home solar power, you may get the impression that Uncle Sam is going to pick up 30% of your cost and you only have to come up with the other 70%. That is not necessarily the whole picture. True, the federal government has a 30% tax credit for the cost of a qualified solar installation (some states also have solar credits or other incentives). However, the federal credit is non-refundable and can only be used to offset your current tax liability, and any excess carries over to future years as long as the credit still applies in future years. Currently, the credit is allowed through 2021. What this means: You may not get all the credit in the first year as you might have been led to believe or assumed based upon the TV ads.

For example, suppose your solar installation costs $25,000. That would qualify you for a solar tax credit of $7,500. But suppose the income tax on your tax return is only $4,000. Then, the credit would reduce your tax liability to zero, and the other $3,500 ($7,500 – $4,000) of the credit is carried over to the next year’s tax return, where the credit will be limited to that year’s tax amount. If your tax is again less than the amount of the credit, the excess credit carries to the following year, and so on, until the credit is used up or the credit expires.

To qualify for the credit, the equipment must be installed in a home that is located in the U.S. and that you use as your residence. The credit can’t be claimed for equipment that is used to heat a swimming pool or hot tub. If the equipment is used more than 20% for business purposes, only the expenses allocable to non-business use qualify for the credit.

The credit covers both the cost of the hardware and the expenses of installing it, such as labor costs for on-site preparation, assembly, and installation of the equipment and for piping or wiring to connect it to your home. You claim the credit in the year in which the installation is completed. If you install the equipment in a newly constructed or reconstructed home, you claim the credit for the year when you move in. The credit can be taken for a newly constructed home if the costs of the solar power system can be separated from the home’s other construction costs and the required certification documents are available.

Solar installation companies offer a variety of ways to pay for their systems other than cash. You could take out a loan, and if that loan were secured by your home, generally you would be able to deduct the interest on the loan. Another option is to lease the system, in which case you would not qualify for the 30% solar credit and the lease payments would not be deductible. In addition, for the lease option, you would have to deal with transferring the lease to the new owner should you decide to sell the home or arrange to pay it off.

Another option available in some communities is loans financed by local government and loan payments tacked onto the property tax bill. Generally, this option is at very high interest rates, and you should consider other payment methods first. Just because the payments are added to your property tax bill does not mean the payments are deductible as property tax. Only the interest portion of the separately stated amount is deductible as home mortgage interest.

If you would like to review your options in more detail, including the tax benefits and other aspects of purchasing a solar system for your home, please give this office a call.

Homeowner Energy Tax Credits Get New Life

Recently passed legislation has given new life to two homeowner energy credits that had expired or were about to expire, providing renewed opportunities to homeowners wanting to take advantage of these credits and reduce their energy costs.

Non-business Energy Credit—The first of the two credits is what the tax code refers to as the Non-business Energy Credit. A more descriptive title would be an energy saving credit since it applies to improvements to the taxpayer’s existing primary home to make it more energy efficient. This credit was extended for two more years, allowing homeowners to claim the credit for qualifying energy improvements made in 2015 and 2016.

The credit generally applies to insulation, storm windows and doors, and certain types of energy-efficient roofing materials, air-conditioning and hot water systems.

The credit is 10% of the cost of the energy-saving items but does not apply to the cost of installation and is limited to a lifetime maximum of $500. So if you have taken advantage of this credit in the past and received $500 or more in credit in a prior year, you cannot claim any additional credit.

In addition to the $500 overall limitation, there are also per-item limitations on the credit; for example, qualified windows and skylights—$200, qualified hot water boiler—$150 and qualified energy-efficient equipment—$300.

The credit is nonrefundable and can only be used to offset income taxes (including the alternative minimum tax).

Residential Energy Efficient Property Credit—The second credit to be extended is called the Residential Energy Efficient Property Credit. Better known as the home solar credit, it also provides credit for wind energy systems, geothermal systems and fuel cell systems.

The credit is generally 30% of the qualified property and installation costs, subject to some limitations for fuel cell and geothermal systems.

The credit, which was scheduled to expire after 2016, has been extended through 2021, but only for solar electric and solar hot water systems (excluding swimming pools). In addition, the credit percentage is phased out beginning after 2019. The following are the credit percentages allowed through 2021:

  • 2009 through 2021: No annual limit
  • 2009–2019: 30%
  • 2020: rate reduced to 26% and only on solar-related systems
  • 2021: rate reduced to 22% and only on solar-related systems

There is no limit on the actual credit other than the credit percentage. It is a nonrefundable credit and can be used to offset income tax liability (including the AMT). However, if the credit is unused because it exceeds the income tax amount, it can be carried over to another year as long as the credit has not expired.

Things to Consider—When considering whether or not to go to the expense of installing a solar system, you need to consider a number of issues:

  1. Is it cost effective considering your electric usage?
  2. How will you pay for it?
  3. If you finance it are the terms and interest rate reasonable for your financial situation?
  4. How will it affect your property’s value?
  5. Will you be able to benefit from the tax credits?

Installing solar is a big financial commitment and should be considered carefully. Don’t let a solar system salesperson rush you into a decision. If you need assistance analyzing the financial and tax aspects of installing a solar system, please give this office a call before you sign on the dotted line.