Competition for Solar Tax Equity Is Reaching a Fever Pitch

The solar industry�will require $7 billion to $8 billion of tax
capacity from external investors in 2020, according to a new Wood
Mackenzie research
insight.
 But the competition to secure that investment is
tighter than ever. 

Tax equity for solar projects has gotten a lot of attention this
year. When the coronavirus pandemic first hit, there was widespread
concern that an economic downturn would result in less tax equity
available for solar projects. The biggest investors in the space,
such as JPMorgan, Bank of America, or USBank, would have less tax
liability to dedicate to solar investments.  

But the full story is more nuanced. Less tax equity available
for projects is certainly a concern. But heightened competition for
tax equity and a growing solar industry are the more critical
drivers.  

It’s not all about less tax liability 

As the end of 2020 has approached, solar developers are
reporting that less available tax equity from major investors is
slowing down deals.  

Of course, the total tax liabilities of the major solar tax
equity investors dwarf the $7-8 billion required by all the solar
projects coming online this year. But these investors typically
allocate a certain amount of tax equity to any given
investment. And under the current economic climate of 2020, that
allocation is experiencing more pressure than ever.   

Utility solar is forecast to grow by 66 percent this
year compared to 2019. Investors are reporting that more deals are
coming across their desks than ever before. In conversations with
Wood Mackenzie, one even characterized it as like “drinking from
a firehose.† 

The economic climate this year has also limited the number of
new investors entering the market, with Franklin Park the only new
investor this year, according to kWh Analytics’ Lendscape. If it
weren’t for the pandemic, more investors might have entered the
market, following the trend of the last several years.  

Without new market entrants, growth in tax equity supply has not
kept up with solar market growth. That has constricted the tax
equity supply available to developers.   

As solar expands, investor time is at a premium 

Conducting due diligence and vetting credit requirements takes
substantial staffing time, which was in tight supply this year,
particularly at the peak of economic panic during the second
quarter. This means that investors are prioritizing only the
most favorable solar projects, to the detriment of commercial solar
and projects that carry more merchant risk. 

Given these circumstances, Wood Mackenzie expects a few key
impacts for solar tax equity going forward: 

• Tax equity investors now heavily favor larger transaction
sizes. 

Anything below $50-75 million is likely going to be a tougher
sell. This has already made it harder for smaller commercial solar
sponsors to source external tax equity capital.  

• Competition for tax equity within utility solar is more
intense. 

Tax equity investors are able to select for the highest
quality projects and are more likely to reject deals with higher
levels of merchant risk or weaker financials. 

• Bankability is everything. 

Tax equity investors are prioritizing projects with reputable,
bankable sponsors, particularly if they have already done business
together.  

Wild card: The November election 

Naturally, an increase in the corporate tax rate would increase
solar tax equity investors’ tax liabilities. 

If Joe Biden wins the U.S. presidential election, and
his administration successfully increases the corporate income tax
rate from 21 to 28 percent, as has been suggested by the
campaign, more major investors would be amenable to increasing
their solar tax equity investments.  

If Biden were to win the election and the Democratic Party were
to win a majority in the Senate,
there would also be more momentum behind various proposed changes
to the ITC. One potential scenario could see the ITC modified to a
“refundable†credit that would go directly to the
sponsor, reducing the need for sponsors to monetize the tax
benefits through external tax equity investors. 

There are still many unknowns with either of these policy
proposals. 

Market balance is in the future

Regardless of the election outcome, the high-level trend is
clear: After the short-term crunch, solar tax equity will likely
become less important for solar project financing starting in
2022. 

As the investment tax credit decreases, companies deploy limited
safe-harbored equipment, and solar costs continue their downward
trend, demand for solar tax equity will decrease.  

The era of tax credit monetization dictating solar project
financing is slowly drawing to a close. 

***

Michelle Davis is a senior solar analyst at Wood Mackenzie and
author of ‘Solar
tax equity in 2020: Clarifying the constraints’

Source: FS – GreenTech Media
Competition for Solar Tax Equity Is Reaching a Fever
Pitch