How Do Tax Credits Work for Solar Projects in California? A Guide for Business Owners

Nobody does solar like California in the US. It's breaking more records in 2024 and shows no signs of stopping with the high and rising costs of electricity, coupled with ideal weather conditions, making commercial solar a smart investment for most businesses in the state.

But how do the tax credits work? Here we explore the key tax credits and incentives that can be leveraged to enhance the financial viability of solar projects.

Federal Investment Tax Credit (ITC)

The Federal Investment Tax Credit (ITC) is a cornerstone incentive for solar energy investments in the United States. As of 2024, the ITC allows businesses to deduct 30% of the cost of installing a solar energy system from their federal tax liability.

Eligibility and Scope: The ITC applies to both commercial and industrial solar projects, covering costs related to equipment, labor, permitting, and engineering.
Financial Impact: For instance, a solar installation costing $500,000 would result in a $150,000 reduction in federal taxes, significantly decreasing the overall cost of the project.
Carryforward Provisions: If a company’s tax liability is insufficient to use the full credit in the first year, the ITC can be carried forward to future years, providing ongoing tax relief.

California State Solar Tax Incentives In addition to the federal ITC, California businesses can benefit from state-level incentives that further enhance the financial attractiveness of solar energy investments.

Property Tax Exclusion for Solar Energy Systems

Exclusion Details: In California, solar energy systems are exempt from property tax reassessment until 2025. This means that the added value from a solar installation does not increase property taxes.
Strategic Benefit: This exclusion helps businesses maintain lower operating costs by ensuring that a solar investment does not result in higher property taxes, thus preserving cash flow.

10% Energy Communities Bonus Tax Credit

The Inflation Reduction Act (IRA) introduced an additional incentive for businesses that invest in solar projects located in designated energy communities—areas with significant fossil fuel industry employment or those that have experienced significant coal-related job losses.

Bonus Credit Overview: Solar projects in qualifying energy communities are eligible for a 10% bonus tax credit, in addition to the standard 30% ITC. This brings the total tax credit to 40% for eligible projects.
Eligibility Criteria: Energy communities include regions where a substantial portion of the local economy is tied to fossil fuel production or areas designated by the U.S. government as having experienced economic disruption due to the decline of coal industries.
Financial Impact: For example, if a business installs a solar system in an eligible energy community at a cost of $500,000, the combined ITC and bonus credit would result in a $200,000 tax credit, further reducing the project’s net cost.

Accelerated Depreciation (MACRS)

In addition to tax credits, businesses can take advantage of the Modified Accelerated Cost Recovery System (MACRS), which allows for the depreciation of solar energy systems over five years. This accelerated depreciation can generate significant tax savings.

Bonus Depreciation: Under current federal law, businesses can take 60% bonus depreciation for solar systems placed in service in 2024, enabling a substantial upfront deduction.
Impact on Cash Flow: MACRS allows businesses to quickly recover a large portion of their investment, enhancing cash flow and making solar projects more financially attractive.

Financing Considerations

While understanding tax credits is critical, how a business finances its solar project can significantly influence the benefits received from these incentives.

Power Purchase Agreements (PPAs): With a PPA, a third party owns the solar system, and the business purchases the electricity generated at a predetermined rate. The third party takes the tax credits and may pass some savings on to the business.
Solar Leases: Similar to a PPA, a solar lease allows a third party to own the system, while the business benefits from reduced energy costs without the upfront capital investment.
Direct Ownership: Purchasing the solar system outright allows a business to fully capitalize on tax credits and depreciation benefits, maximizing long-term savings.

Strategic Planning for Maximum ROI

To fully leverage these incentives, strategic planning is essential.

Tax Strategy: Collaborate with tax professionals who specialize in renewable energy to ensure that all available credits and deductions are fully utilized.
Timing Considerations: Align the solar project with fiscal year planning and upcoming policy changes to optimize financial benefits.
Policy Monitoring: Stay informed about potential changes to tax credits and other incentives to sustain the financial advantages of solar investments.

Time Sensitive?

With the US Presidential election around the corner, the subject of green energy tax credits will once again come under scrutiny, and the Inflation Reduction Act is a "day one issue" according to senior Republicans. This puts into question the tax credits that currently make commercial solar one of the best investments a business owner can make, so time may once again be of the essence for business owners who want to maximize the benefit of solar.