The Inflation Reduction Act (IRA), which celebrated its first anniversary a few days ago, stands as one of the most significant economic plans in history. Not only does it hold the potential to reshape the U.S. economy, but it could also serve as a pivotal moment for addressing climate change.
Clean Energy Initiatives and Subsidies:
The IRA primarily focuses on clean energy initiatives and subsidies, with tax credits taking center stage. Noteworthy changes include a substantial increase in the allocation of tax credits, totaling approximately $250 billion. This increase results from both an expansion of eligible projects and an elevation in credit amounts per project.
Another groundbreaking change is the newfound transferability of commercial clean energy tax credits. This alteration is poised to be one of the most transformative aspects of the IRA. Additionally, certain projects may now qualify for direct payments from the government. Furthermore, the horizon for tax credits has been extended by ten years, providing much-needed market stability.
Under the IRA, renewable energy projects can claim Investment Tax Credits (ITCs) equivalent to 30% of their total investment, with the possibility of bonus adders increasing this figure to 70% in unique cases.
Currently there is an extended list of technologies eligible but, starting in 2025, tax credits will become technology-agnostic, encompassing all carbon-neutral energy projects. We expect this change to foster innovation and reduce bias for certain technologies.
However, projects must meet the Prevailing Wage & Apprenticeship requirements stipulated in the IRA to claim the full 30% tax credit. Failure to meet these requirements will result in an 80% reduction of the tax credit (i.e., from 30% to 6%). This reduction also applies to bonus adders if the project was eligible, reducing them from 10% to 2%. It's important to note that projects with a nameplate capacity under 1 MW are exempt from these Wage & Apprenticeship requirements, simplifying smaller project transactions and making them more attractive to buyers.
The IRA introduces three bonus adder categories that could potentially elevate the investment tax credit to 70%. That being said, it is unlikely (though possible) that a project would be eligible for multiple bonus adders simultaneously. The bonus categories include:
- Domestic Content: This category offers an additional 10% tax credit if the IRA's domestic content requirements are met.
- Low-Income Communities: Projects located in Low-Income Communities can receive an additional 10-20% tax credit, depending on the specific category.
- Energy Communities: A 10% tax credit bonus is available for projects situated in energy communities as defined by the IRA.
Transferability & Direct Pay:
One of the IRA's most revolutionary changes is the introduction of transferability, providing a straightforward mechanism for projects with limited tax liabilities to monetize their tax credits. While initial implementation may involve diligence processes and extensive legal documentation, the process is expected to become more streamlined as the market matures. This offers a simpler alternative to tax equity, eliminating the need for complex structures to monetize tax credits.
This increased simplicity will reduce transaction costs, making it accessible to smaller players who previously lacked access. Smaller projects, including commercial & industrial and agri-voltaic ventures, will now have the opportunity to monetize tax credits, potentially triggering a wave of smaller developments. With net prices to developers hovering in the high 80s, this change can unlock over 25% of the project investment in cash, which could be a game-changer for many projects.
While tax-exempt entities and specific tax credits are eligible for direct pay, the attractiveness of this option depends on payment timelines and the cost of capital. Some high-cost capital developments may still opt to transfer tax credits, securing a significant portion of their value upfront rather than waiting for a year to receive the full amount.
In conclusion, while we have primarily focused on clean energy tax credits, the Inflation Reduction Act is poised to have a transformative impact on the industry, ushering in a much-needed wave of clean development. We believe that the new regulations surrounding tax credits, including transferability and project eligibility, will particularly benefit smaller projects, which are crucial for driving the energy transition. At Concentro, we are committed to assisting smaller projects in maximizing their benefits under the Inflation Reduction Act. Please do not hesitate to reach out to us if you require any assistance.