Will tax equity transferability help US wind?

People say the devil is in the detail, but sometimes there’s delight too. That is the case with the Inflation Reduction Act that entered US law in August.

One of these delights is that the IRA introduced the concept of ‘transferability’ for tax credits – both investment tax credits (ITC) and production tax credits (PTC) – at renewables assets. Previously, only equity owners could benefit from the tax credits associated with their projects, but transferability should open them to other firms. This could mean big changes in project funding.

What's happening?

The challenge with tax credits at renewable energy assets has been that the developers or owners of these projects often have tax liabilities too small to make use of the tax breaks.

The solution to this challenge has been tax equity deals, where the developer sells an equity stake in the project to a major investor, usually a bank, that can make use of the tax credits. The bank buys an equity stake in the project in return for 100% of the tax credits, which helps them reduce their tax bills, and gain access to project-generated cashflow.

This is an established solution that has helped developers to unlock capital for their projects. However, the issue is that there is only a handful of large tax equity investors in the market, and their appetite for deals is not limitless.

Transferability promises to change this. This lets developers sell tax credits associated with their renewables assets to other entities for cash. The result is that new types of companies can benefit from these tax breaks, even if they don’t own an equity stake in the project and have little or no tax liability.

The goal is to broaden the pool of companies that can invest in renewables; accelerate the deployment of renewables; and support projects and sponsors that couldn’t otherwise access efficient tax equity. An exciting change.

But will it have the desired effect? This was a talking point at our Financing Wind North America conference in New York earlier this month. Speakers agreed that transferability has the potential to be a major help to developers, but they would need to see the detail of the regime.

Talking tax

Around 50% of tax equity in the US market in 2020 and 2021 was supplied by Bank of America and JP Morgan. Other large players include Credit Suisse, US Bank and Wells Fargo. Ray Wood, Head of Global Natural Resources & Energy Transition at Bank of America Securities, said transferability could result in new structures in tax equity and would be a “quite powerful” change in the market.

“We’d be very interested in augmenting our traditional partnership flip structure, or at least structuring it with a transferability element, particularly for some of these large projects,” he said, but added that the bank needed to see details of the regulations before it could assess the full impact.

Gary Durden, Partner & Managing Director at CohnReznick Capital, said transfers could open a “new market for people who just don’t want to deal with the complexity of tax equity”. He also said that traditional tax equity is still going to be in demand, because it is well-established and works.

Beth Waters, Head of Project Finance & Deal Team Leader at MUFG, said it would take “at least six months” to get clarity over how transferability will work, but that she was talking to clients who were excited about what the new options meant for how they could finance and monetise their projects.

Gabriel Alonso, Founder, CEO & President of 547 Energy, reiterated that “the rules are not out there” so companies do not know what will happen.

While transferability could open the potential for more corporates to invest in renewables projects, Alonso said some could be put off buying tax credits because of the reputational risks: “Some of the big corporates may not find that, branding-wise, the right way for them to buy the license operate is to acquire tax credits and not pay taxes,” he said.

But he said he expected transferability to attract some new corporates, and other types of companies, to invest in the US clean energy industry.

The stronger-than-expected mid-term election results for the Democrats have kept the Biden administration’s renewable energy agenda alive. Not it will take innovations in areas including tax equity that can help it thrive.